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Making Bank on Receivables

Founder’s Edition by Joseph Neu

Investor demand for receivables-backed securities presents opportunities for banks that harness data, technology.

Last week, I noted how supply chain finance (reverse factoring et al) was raising concerns with accountants, rating agencies and regulators because it allows unscrupulous firms to potentially extend payables to fund their working capital without considering it to be debt.

This week I focus on the positive sides of trade finance and, especially, supply chain finance: Thinking about receivables plus data opens exponential possibilities to secure financing, usually at lower rates than many imagine. Here’s the story as it applies to reverse factoring:

Investors want trade receivables. Attending a bank session last month, I learned that every asset manager and insurance company (and probably a sizable segment of other smart investors) wants receivables-backed investment opportunities from credible supply chain programs. They are coming to banks asking to put $10 billion or more to work and the banks are asking themselves how to satisfy this investor demand. The banker leading the trade finance session said there is an estimated $1.5 trillion gap between supply and demand for trade finance paper. The gap will soon climb another trillion as SMEs become more integrated into supply chains.

Why trade receivables? What investors really want are securities backed by diverse pools of trade receivables that have mitigated credit risk due to commercial relationships. Critical suppliers to strong- credit buyers are a good risk, because the buyer is not going to let a good supplier go under by not paying an invoice; the payment ensures the cash flow that supports the security the investor purchases.

Has the invoice been approved? Clearly, if the invoice has been approved, then the credit risk is further diminished. Thus, a whole ecosystem of machine learning and AI has emerged to help predict which invoices are expected to receive approval. Some solutions are said to be accurate enough to win a government guarantee based on their predictions of whether and when the invoices will be approved.

Data as a risk mitigant. Of course, the predictive power of technology is very reliant on the data accessible to it. Indeed, the data is quickly becoming as or more valuable than the receivable itself. The more data a supply chain finance vendor/arranger has that indicates when buyers approve and pay which suppliers, not to mention the commercial importance of the transaction, the more confidence investors will have in the certainty and timing of the underlying cash flows.

Founder’s Edition by Joseph Neu

Investor demand for receivables-backed securities presents opportunities for banks that harness data, technology.

Last week, I noted how supply chain finance (reverse factoring et al) was raising concerns with accountants, rating agencies and regulators because it allows unscrupulous firms to potentially extend payables to fund their working capital without considering it to be debt.

This week I focus on the positive sides of trade finance and, especially, supply chain finance: Thinking about receivables plus data opens exponential possibilities to secure financing, usually at lower rates than many imagine. Here’s the story as it applies to reverse factoring:

  • Investors want trade receivables. Attending a bank session last month, I learned that every asset manager and insurance company (and probably a sizable segment of other smart investors) wants receivables-backed investment opportunities from credible supply chain programs. They are coming to banks asking to put $10 billion or more to work and the banks are asking themselves how to satisfy this investor demand. The banker leading the trade finance session said there is an estimated $1.5 trillion gap between supply and demand for trade finance paper. The gap will soon climb another trillion as SMEs become more integrated into supply chains.
  • Why trade receivables? What investors really want are securities backed by diverse pools of trade receivables that have mitigated credit risk due to commercial relationships. Critical suppliers to strong- credit buyers are a good risk, because the buyer is not going to let a good supplier go under by not paying an invoice; the payment ensures the cash flow that supports the security the investor purchases.
  • Has the invoice been approved? Clearly, if the invoice has been approved, then the credit risk is further diminished. Thus, a whole ecosystem of machine learning and AI has emerged to help predict which invoices are expected to receive approval. Some solutions are said to be accurate enough to win a government guarantee based on their predictions of whether and when the invoices will be approved.
  • Data as a risk mitigant. Of course, the predictive power of technology is very reliant on the data accessible to it. Indeed, the data is quickly becoming as or more valuable than the receivable itself. The more data a supply chain finance vendor/arranger has that indicates when buyers approve and pay which suppliers, not to mention the commercial importance of the transaction, the more confidence investors will have in the certainty and timing of the underlying cash flows.
  • New value in data sources. This data, unfortunately for banks, resides mostly in ERP systems and not in the banking system. This explains the opportunity for ERP vendors and fintechs to partner to source this data to reduce trade friction and mitigate credit risk. If every invoice that gains approval were updated in the ERP and that information was made available instantly to a bank or securitization pool, the world would be a different place.
  • Trusted intermediary for the data. With concern growing about who has access to what data, especially when it involves historical relationships between trusted counterparties, who plays the role of intermediary for receivables data matter.
    • Banks would be one option, but they are limited in how many counterparties they can onboard to their systems (and how quickly) due to KYC regulations. Unregulated fintechs have more scope to onboard, but do they have the trust factor?
    • Another option might be platforms like Marco Polo or Voltran (now Contour), that could use their distributed ledger/blockchain to provide secure intermediation of the transactions and the data.
  • Who provides balance sheet? Corporates in the Fortune 50 that look at supply chain finance programs also want to have someone else’s balance sheet behind them. “If the whole thing goes upside down, they want to know that there is a backer able to write a half-billion-dollar check,” said one banker. Yet no bank wants to support a platform that is not exclusively theirs and no corporate wants their supply chain dependent on one bank. Bolero and Swift efforts have shown the challenges of pleasing all constituencies.

Meanwhile, the opportunity to package trade receivables and the underlying data to create optimal pools of receivables at scale to meet investor demand remains.

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Treasurers Educate HighRadius on Cash Forecasting Needs

NeuGroup members give to get by providing feedback on AI-based cash forecasting solutions.

Treasurers at a NeuGroup meeting in Texas sponsored by HighRadius provided feedback to the Houston-based technology company on what they’d like to see from cash forecasting solutions that use artificial intelligence (AI) and machine learning (ML) to improve accuracy, reduce treasury’s need to input data and allow a wider variety of pertinent data.

  • HighRadius has long provided forecasting services for accounts receivable (AR), the biggest component of cash forecasting, that make use of ML. It now is applying the methodology to accounts payable and other cash forecasting components.

Input wanted. HighRadius executives eagerly sought input on the company’s cash forecasting solution now being developed, and here’s some of what they heard from NeuGroup members:

NeuGroup members give to get by providing feedback on AI-based cash forecasting solutions.

Treasurers at a NeuGroup meeting in Texas sponsored by HighRadius provided feedback to the Houston-based technology company on what they’d like to see from cash forecasting solutions that use artificial intelligence (AI) and machine learning (ML) to improve accuracy, reduce treasury’s need to input data and allow a wider variety of pertinent data.

  • HighRadius has long provided forecasting services for accounts receivable (AR), the biggest component of cash forecasting, that make use of ML. It now is applying the methodology to accounts payable and other cash forecasting components.

Input wanted. HighRadius executives eagerly sought input on the company’s cash forecasting solution now being developed, and here’s some of what they heard from NeuGroup members:

  • Drill down to the invoice level. The HighRadius app enables companies to explore which of dozens of variables—business line, currency, country—generate most of the variance between forecasted and actual cash. A NeuGroup member suggested going deeper still, to reveal which customers generate the variance.
    • A HighRadius representative said the firm’s technology already predicts payments by individual customers on the collection side, and “we’ve been debating how far to take it” with cash forecasting.
  • A longer tail. Orders for goods and services would be another helpful variable, one member said, because they look out further than invoices.
  • Size matters. Another member suggested that HighRadius include the ability to drill down to customers responsible for 80% to 90% of a company’s AR and provide details on those accounts.
  • Override. The app allows for manual overrides when, for example, a major customer wants to pay early, prompting one meeting participant to say it should identify the customer and explain the reason for early payment.
    • “We’ve heard similar requests, so it’s on the roadmap,” a HighRadius rep responded.
  • Cross-company learnings. A corporate customer may historically pay its annual invoice on time but face challenges this year that aren’t captured by historical data. A member asked whether HighRadius’ app incorporates that company’s more recent payment history with other clients, indicating potential troubles ahead.
    • That will come as High Radius’ customer base grows, a rep said, since “learnings from one company could apply to others.”
  • Sales forecasts? Yes, said a HighRadius rep, sales forecasts provided by a company’s FP&A group could be included in the model to generate long-term forecasts.
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Steps on a Technology Journey to Data-Driven Decisions, Actions

A detailed look at the progression of one tech company’s digital transformation.

Building and using a data lake that is a centralized source of data is a key part of the modernization and technology journey for treasury at one leading tech company; a progression from being data aware to data proficient to data savvy to achieving data-driven decisions and actions.

  • A treasury cash operations manager presenting details of this journey at a NeuGroup meeting said a top priority was “wading into the data lake despite the complexity” because treasury is “tired of pulling data from multiple systems.” Among the goals are data transparency, standardization and control.

Data analytics. This company’s treasury adopted Power BI (everyone is trained to use it) for creating standardized dashboards with drill-down capabilities so it could address questions immediately but also create a more self-serve environment. Using the tool’s capabilities to do data analytics, the member said, reveals both data-driven answers and, initially, data shortcomings.

  • Hence the benefit of the data lake. And as other NeuGroup members have noted, treasury’s ability to use AI and machine learning for cash flow forecasting and other purposes depends on having data that has depth and detail.

A detailed look at the progression of one tech company’s digital transformation.

Building and using a data lake that is a centralized source of data is a key part of the modernization and technology journey for treasury at one leading tech company; a progression from being data aware to data proficient to data savvy to achieving data-driven decisions and actions.

  • A treasury cash operations manager presenting details of this journey at a NeuGroup meeting said a top priority was “wading into the data lake despite the complexity” because treasury is “tired of pulling data from multiple systems.” Among the goals are data transparency, standardization and control.

Data analytics. This company’s treasury adopted Power BI (everyone is trained to use it) for creating standardized dashboards with drill-down capabilities so it could address questions immediately but also create a more self-serve environment. Using the tool’s capabilities to do data analytics, the member said, reveals both data-driven answers and, initially, data shortcomings.

  • Hence the benefit of the data lake. And as other NeuGroup members have noted, treasury’s ability to use AI and machine learning for cash flow forecasting and other purposes depends on having data that has depth and detail.  

The role of the cloud. The presenter said that moving treasury applications to the cloud to co-locate data reduced IT’s footprint by 60%. Treasury has about 40 applications; 24 of them are first-party apps (meaning the company builds and maintains them in-house), and the rest are third-party apps. The first-party apps address:

  • Cash forecasting
  • Cash visibility
  • Bank account management
  • Intercompany loan management
  • Wire requests and tracking

SWIFT gpi and transparency. The company was an early adopter of SWIFT gpi, which allows treasury to track wires once they leave treasury’s banking partner. One member said this is good news for her treasury. “This will be very beneficial to us as we have limited visibility to transactions once they leave our banks,” she said. “SWIFT gpi will provide more transparency on payment statuses.”

SWIFT and the cloud. The company and SWIFT have worked together on a cloud-native project that allows SWIFT wire transfers to be done over the cloud. The teams have enabled SWIFT wire transfers on this setup. The company is the first cloud provider working with SWIFT to build public cloud connectivity and will work toward making this solution available to the industry. 

How it works. Treasury sends a wire instruction through a web app on the cloud, which is validated by using machine-learning algorithms.

  • Once validated for authenticity, these wires are sent to SWIFT via the company’s SWIFT installation on the cloud. SWIFT validates the wire instructions and sends it off to the appropriate bank. Once the bank carries out the wire instruction, it sends confirmation through to treasury.

Machine learning. Treasury built a machine-learning forecasting solution that is addressing a key FX exposure for the company while improving forecast accuracy of AR and operational efficiency for the team.

  • Historical data in the cloud was cleaned and used to create the solution using the R programming language and other tools.
  • Cumulative forecasting of notional exposure improved by 6%.
  • Volatility of FX impact on other income and expense was reduced by ~25%.

The people part. Like many treasury teams, this one is trying to strike the right balance between people in possession of core treasury knowledge and skills and those who are more adept at data analytics and have advanced quantitative abilities. In addition to everyone learning Power BI, treasury recently hired its own data analysts.

The problem remains, though, that some staff lack the skills, ability or interest to learn new tools and technology at a point when data science is increasingly critical. The treasury team highly encourages employees to take courses to increase their skills in the data analytics space and provides sponsorship to help them achieve these goals.

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Tales from the Cyber Crypt

Assistant treasurers exchange recent scary cyber tales of success and failure.

In a breakout session at NeuGroup’s Assistant Treasurers’ Leadership Group focusing on securing companies from cyberattacks, members recounted recent experiences and the conundrums they face combating them.

Digital protection, à la carte. NeuGroup’s own Scott Flieger, director of peer groups, said a fellow member of a college board who runs a cybersecurity advisory firm recommends companies make a menu of their digital assets, from bank accounts onward, and seek to value them. Then ask how much the company is willing to pay to protect that asset. He added that few understand a company’s digital assets better than assistant treasurers. “Being the person in treasury who has an inventory of the digital assets and can value their importance—that’s an important position,” Mr. Flieger said.

Assistant treasurers exchange recent scary cyber tales of success and failure.

In a breakout session at NeuGroup’s Assistant Treasurers’ Leadership Group focusing on securing companies from cyberattacks, members recounted recent experiences and the conundrums they face combating them.

Digital protection, à la carte. NeuGroup’s own Scott Flieger, director of peer groups, said a fellow member of a college board who runs a cybersecurity advisory firm recommends companies make a menu of their digital assets, from bank accounts onward, and seek to value them. Then ask how much the company is willing to pay to protect that asset. He added that few understand a company’s digital assets better than assistant treasurers. “Being the person in treasury who has an inventory of the digital assets and can value their importance—that’s an important position,” Mr. Flieger said.

Bad timing. The email system of a NeuGroup member firm’s collections team was compromised, revealing all its customer contacts. The fraudsters then sent realistically scripted emails to customers requesting payments be sent to a different bank and providing the necessary details.

The member’s security team wanted to alert customers, but it was two weeks from quarter end, “and you don’t want to spook customers so they don’t pay you—a real treasury issue,” the member said.

Cyber reticence. Companies develop their cybersecurity plans internally, but then what? “One of our biggest challenges was that people don’t want to talk about cybersecurity,” one participant said, noting wariness about discussing the plan with third parties.

  • “We had a hard time finding peers to benchmark against, and we were paranoid as well, creating a special NDA that we made all of our banking partners sign before talking about our cybersecurity,” he said. Even his team’s discussion about how to store the plan was challenging, “because we effectively created a playbook for how to hack us.”

Cryptocurrency conundrum. A ransomware attacker may demand the transfer of $50,000 in Bitcoin to a cryptocurrency account to unfreeze a company’s system. If news breaks on CNBC about the attack, pressure will mount to meet that demand, but opening cryptocurrency accounts takes time. Companies may open cryptocurrency accounts in preparation for an attack, but would this information becoming public in an earnings call invite such attacks? And should any payment be made at all, given that the attacker could be a terrorist organization?

  • One solution: “We back up all our data, even on the desktops, so if we get locked out of our primary system, we can just reload everything,” one member said.
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Crisis Management Brings Executives Together

Having a crisis response plan can help make the company more resilient now and later.

Following a framework for crisis response planning that engages management as well as the board can create significant political capital for internal audit, not to mention better prepare the company for crises that may arise.

Having a crisis response plan can help make the company more resilient now and later.

Following a framework for crisis response planning that engages management as well as the board can create significant political capital for internal audit, not to mention better prepare the company for crises that may arise.

Multipurpose framework. The head of internal audit at a major government contractor said in a recent NeuGroup meeting that his company uses the National Fire Protection Association 1600 Standard on Continuity, Emergency and Crisis Management. He described it as a “fairly transferable” framework that can be used across a variety of scenarios, from fire drills to much more complex and resource-intensive corporate initiatives. Most members participating in the meeting were unfamiliar with the NFPA document and listened raptly as the IA chief describe the benefits.

The member noted that the company’s risk committee chairman had required adopting the framework and given the nature of the company’s business, most of its provisions were already in place.

What not to do. The member said a fascinating outcome of crisis response planning is understanding better what executives are not supposed to do or say, “particularly for the C-suite, where it’s not uncommon to have lots of type A personalities.” The exercise clarifies what each executive’s role is and emphasizes letting the crisis manager inform them about developments so they can better determine their next steps.

By promoting understanding of the various scenarios and analyzing what to report versus what to disclose, the requirements and the cadence of reporting, “We really challenged management to think about that, and it was very helpful,” he said.

Muscle memory. “Every time we went through the exercise, whether [for a major initiative], or for cyber, or an inside threat, we’d learn something new, or ask questions we hadn’t thought to ask before,” the member said. The future will always bring situations that can’t be anticipated, and he recounted a few humorous ones. “There’s always something you don’t think about, but the more you do it, it builds muscle memory,” he said.

Political capital. The member noted that facilitating these conversations in his capacity as IA was highly rewarding. “It engaged management at different levels and created political capital that has paid dividends in so many different areas for IA,” he said.

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Appealing to Millennials and Gen Zers: The Academic Perspective

Insights from the Foster School of Business on what today’s MBAs want—and what treasurers have to say.

Corporates who want to hire MBA finance graduates face a highly competitive market and are well served by knowing what the current crop of millennials and Gen Zers value most when weighing job offers. That was among the key takeaways from a presentation by faculty and administrators at the University of Washington’s Foster School of Business to the members of a group of treasurers at mega-cap companies. Here’s what matters most:

Insights from the Foster School of Business on what today’s MBAs want—and what treasurers have to say.

Corporates who want to hire MBA finance graduates face a highly competitive market and are well served by knowing what the current crop of millennials and Gen Zers value most when weighing job offers. That was among the key takeaways from a presentation by faculty and administrators at the University of Washington’s Foster School of Business to the members of a group of treasurers at mega-cap companies. Here’s what matters most:

  • Strategic thinking
  • Business decision-making
    • A Foster School assistant dean later elaborated: “New graduates are seeking jobs in strategic positions that impact a company’s present and future direction. They are savvy in technology, use of communication networks, and see both the present and the future in how they think, so where they can exercise these attributes and skills makes a difference to them.  They think with innovation in mind and have a global sense of their potential impact.”
  • Cross-functional teams
  • Salary
    • The average salary for Foster’s 2018 MBA finance graduates was about $115,000, plus a signing bonus of $25,000.
  • Flexibility/work balance.
  • Promotions.
    • In an earlier session, one treasurer asked his peers if they found that new hires expected a promotion every year. He said that’s unrealistic and his approach is to tell people the company is “going to get you where you ultimately want to go,” but don’t expect a promotion every year. Another treasurer said finance has a 70% retention rate and warned, “You’ll lose them if they’re not advancing.”
  • Frequent feedback. The Foster School professors added that MBAs want contact with senior leadership.

How to engage potential recruits. The Foster School presentation recommended members take these actions to appeal to MBA students:

  • Give a guest lecture or serve on a panel at the school.
  • Host a group of students for a tour or talk.
  • Sponsor a spring analytics project.
  • Mentor a student.
  • The obvious: Hold on-campus recruiting events.

The corporate perspective. Not all the treasurers present said they favored MBA graduates. In fact, one member said MBA grads who are on rotations in the company’s leadership program usually don’t return to finance roles because they “want to do exciting business stuff, sexy biz dev stuff.” It’s easier, he said, to retain undergraduates who start in finance. “I love the leadership program when we get undergrads,” he said.

  • Another treasurer asked, “How do we make finance sexier?” He noted that corporates are often competing against investment banks for top talent.
  • The first treasurer said that when he does hire MBAs, he takes graduates from “second tier” schools who did well and are intent on proving themselves, as opposed to trying to recruit Ivy League MBAs. “Let them go to McKinsey or Goldman Sachs,” he said.
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Supply Chain Finance Faces Rising Regulatory Scrutiny

Founder’s Edition, by Joseph Neu

Making sense of calls to increase debt classification and disclosure requirements for reverse factoring.

I received an email recently from a consultant giving me a heads-up about a potential financial reporting change that could adversely impact the multibillion-dollar market for supply chain finance.

Founder’s Edition, by Joseph Neu

Making sense of calls to increase debt classification and disclosure requirements for reverse factoring.

I received an email recently from a consultant giving me a heads-up about a potential financial reporting change that could adversely impact the multibillion-dollar market for supply chain finance.

  • Extended payables vs. debt. At issue is the ability of companies to use a financial intermediary to pay suppliers at a discount while extending their payments terms to the suppliers (sometimes in conjunction with raising financing against their own receivables, too), or simply extend payables beyond the norm to preserve cash (aka reverse factoring, payables financing or supply chain finance). Many such transactions are not recorded as debt but rather as trade payables.

The collapse of the UK construction firm Carillion in early 2018, linked by critics to its misuse of supply chain finance, is seen as one tipping point. But the broader use of reverse financing to help firms fund themselves at lower cost that is being promoted by a growing number of financial intermediaries is also driving regulatory scrutiny. Here are some recent examples:

  • Big Four ask for guidance. The Big Four accounting firms in October took the rare step of sending the FASB a joint letter, asking it to weigh in on how companies should classify various supply chain financing transactions and what details they should disclose.
  • Rating agencies. Fitch has a formula it uses to adjust company debt ratios to reflect their use of supply-chain finance. Moody’s has issued a warning.
  • SEC calls for MD&A disclosures. At the American Institute of CPAs conference in December, SEC Corporation Finance Deputy Chief Accountant Lindsay McCord said businesses needed to use the Management Discussion and Analysis section of their financial statements to give investors insight on their use of supplier finance programs that might change their financial condition.

To get the views of our members, I reached out to a few who manage significant supply chain finance programs.

  • Transparency and standardization needed. “The significant variations among accounting professionals in how they treat SCF reporting, even within the same accounting firm, does create external reporting challenges,” one member said. He would support standardization of interpretation and transparency of reporting.
  • The ESG component. Standardization would support good governance “to remove financial engineering and creativity merely for the sake of metrics reporting (for MNCs and large corporates) that are not necessarily beneficial to the overall business environment,” the member said. SMEs can be especially victimized by extraordinary extended terms (240-360 days), he added, with settlement delays of another 30-60 days in some countries.
  • Are new rules really needed? In another member’s opinion, “Any hack analyst can tell what is going on. Yes, it is a bit of a trick with the ratings agency’s metrics, but they too know exactly what is happening.”

I think it is fair to say that audit firms should be able to come up with a more consistent application of the current principles-based approach—i.e., the extent to which an intermediary’s involvement changes the nature, amount, and timing of payables, plus the direct economic benefit the entity receives—even without the intervention of those who set accounting standards.

  • We should all support disclosures that are sufficient to determine adherence to this principal and make clear how financing techniques affect the statement of cash flows. Reputation risk and ESG ratings related to the treatment of suppliers will also help prevent abuse if capital providers are paying attention.

To see what such disclosures might look like, take a look at examples from Masco and Keurig Dr Pepper in their responses to SEC staff comment letters.

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Managing FX in Currency Tiers to Control Cost, Workload

Why one company’s treasury spreads currency management among teams for large exposures, currency clusters and “tier two” currencies.

At a recent NeuGroup meeting of treasurers in Europe, one member shared how his company manages FX risk management-related costs and workload by considering currencies in tiers.

Why one company’s treasury spreads currency management among teams for large exposures, currency clusters and “tier two” currencies.

At a recent NeuGroup meeting of treasurers in Europe, one member shared how his company manages FX risk management-related costs and workload by considering currencies in tiers.

Global policy, local execution. Generally speaking, at this company, corporate treasury at HQ is responsible for the framework and policies and the global hedging approach, but local (in-country) treasury staff implement the hedging strategy with advice and approval from HQ.

Big countries have their own treasury organization. Some countries in the global group are so large relative to the size of the company and have their own currencies that they will have their own treasury. Other countries together form a “cluster” that also can be managed on its own.

But “tier two” countries don’t. Various tier two countries can be served directly by corporate treasury. Here, local treasury and in-country project controllers forecast and monitor FX risks resulting from purchase orders, sales orders and tender offers, but the exposure is hedged at the group level by corporate treasury.

Other tier two countries are served by local treasury, such as India, China, South America and Africa; here, risk identification is done as above but the exposure is hedged with local banks by local treasury. (However, the valuation of the local third-party hedges is performed by corporate treasury.)

Group guidance promotes the use of global currencies like USD or EUR for project tenders in emerging markets but when that is not possible, negotiators need to ensure that currency fluctuation clauses are in the contracts. Failing contracts in global currencies, local treasury consults closely with corporate treasury to monitor risk and manage the cost of hedging.

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Smoother Sailing: The Benefits of Dynamic Discounting

How C2FO’s solution helps one company’s treasury team smooth its cash flows.

Successfully adopting dynamic discounting (DD) to execute early payments requires internal alignment across multiple functions in a corporate’s organization—as well as finding the right vendor and solution. However, the technology’s many benefits, including smoothing out cash flow for both the company and its suppliers, provide a persuasive argument.

How C2FO’s solution helps one company’s treasury team smooth its cash flows.

Successfully adopting dynamic discounting (DD) to execute early payments requires internal alignment across multiple functions in a corporate’s organization—as well as finding the right vendor and solution. However, the technology’s many benefits, including smoothing out cash flow for both the company and its suppliers, provide a persuasive argument.

A treasury executive from a major technology company explained her firm’s challenges and the benefits of implementing C2FO’s DD platform at a recent NeuGroup meeting sponsored by the Kansas City-based fintech.

The biggest challenge. The member said that aligning top executives internally was probably the most time-consuming aspect of the adoption, noting that there were multiple areas and teams impacted whose cooperation was critical. Besides the initial IT investment, the implementation required changing the company’s procurement and accounts payable processes.

  • The assessment and ultimately the recommendation to adopt C2FO were made by an executive committee comprising representatives from finance, treasury, IT, supply chain, procurement, and credit and collection. Ultimately the company’s CFO signed off on the project.

Three choices. The company considered employing the traditional discounting model, in which vendors receiving early payment within a certain number of days would accept a specified discount. Also contemplated: a sliding-scale model that tied the discount percentage to how many days early the vendors were paid.

  • Those approaches typically require extensive negotiations with suppliers and allow limited flexibility. The company chose the dynamic-discounting model, which lets it define the amount and timing of cash it deploys into the program and enables vendors to bid on the discount percentage they are willing to provide.

Smoothing out cash flows. The flexibility of the C2FO platform allows the company to better manage its cash flows, making the model especially attractive given the transactional, potentially volatile nature of the company’s business.

Benefits across the company. Treasury’s DD benefits include a risk-free investment opportunity, optimizing working capital and payment-term extensions. In addition to being a tool highly leveraged by treasury, there were benefits in other areas too:

  • Procurement: Stronger supplier relationships; standardized processes and payments; no more negotiating one-off discount terms.
  • IT: Minimal support required; a secure SaaS platform; easy user experience with minimal training; operations on multiple ERP systems.
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Share Repurchases: Don’t Wait for the Sell-off

The case for spending all (or almost all) the cash allocated to buybacks right away.

Monday’s stock market sell-off provides an opportunity to revist an insight on stock buybacks from a NeuGroup meeting last spring: A risk management expert at Deutsche Bank argued that waiting for dips is not the most effective way to repurchase shares. That’s worth considering given that many companies only buy back their stock when the price dips below what they consider its intrinsic value.

The case for spending all (or almost all) the cash allocated to buybacks right away.

Monday’s stock market sell-off provides an opportunity to revist an insight on stock buybacks from a NeuGroup meeting last spring: A risk management expert at Deutsche Bank argued that waiting for dips is not the most effective way to repurchase shares. That’s worth considering given that many companies only buy back their stock when the price dips below what they consider its intrinsic value.

Danger in waiting. Research by Deutsche Bank suggests that for almost all sectors, more shares are repurchased (at a lower price per share) if companies buy as soon as cash becomes available instead of waiting until the stock declines.

“Management is notoriously optimistic about its undervaluation,” the Deutsche Bank expert said. But given the commitment companies make to repurchase shares, they have to buy them back eventually, even the dip never comes, he said. “So the danger is waiting.”

Methodology. The back-testing research assumes that if the required dip does not occur after one year, the company starts spending incremental cash flow on share repurchases because “we assume that no more than one year of cash flow can be retained,” the banker said.

Dollar cost averaging. In simple terms, the problem with spreading out buybacks over a longer period of time is that stock prices have risen over the long term, the banker said. And while dollar cost averaging makes sense on an emotional level, “It’s best to spend the money as soon as it’s available.” The one caveat, he added, is that it’s smart for companies to have a liquidity reserve in case of severe downturns.

Buyback ups and downs. S&P Dow Jones Indices in December reported that share buybacks for S&P 500 companies reached $175.9 billion in the third quarter of 2019, 6.3% higher than Q2 2019, 13.7% lower than Q3 2018, and 21.1% lower than the $223 billion record set in Q4 2018. Numbers for Q4 2019 aren’t available but S&P says most estimates call for $189 billion.

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Activist Investors Who Care About More Than One Kind of Green

Founder’s Edition, by Joseph Neu

Takeaways from a fireside chat with ValueAct founder Jeffrey Ubben.

Based on a head’s up from a top Wall Street activist defense adviser, I went to an event earlier this month hosted by Refinitiv and Reuters Breakingviews that featured a fireside chat with ValueAct co-founder Jeffrey Ubben. Mr. Ubben has stopped trying to increase his net worth and is now focused on making the world a better place (at least according to his worldview). One of the vehicles for him to do this is the ValueAct Spring Fund launched in 2018, which invests in companies aiming to address environmental and social problems.

Founder’s Edition, by Joseph Neu

Takeaways from a fireside chat with ValueAct founder Jeffrey Ubben.

Based on a head’s up from a top Wall Street activist defense adviser, I went to an event earlier this month hosted by Refinitiv and Reuters Breakingviews that featured a fireside chat with ValueAct co-founder Jeffrey Ubben. Mr. Ubben has stopped trying to increase his net worth and is now focused on making the world a better place (at least according to his worldview). One of the vehicles for him to do this is the ValueAct Spring Fund launched in 2018, which invests in companies aiming to address environmental and social problems.

  • Inspired by Silent Spring. According to Ubben, the Spring Fund name was inspired by the Rachel Carson environmental science book published in 1962.
  • What makes the fund unique. It’s run by one of the leading activist investors at a firm with $16 billion under management that’s famous for, among other thing, forcing its way onto the board of Microsoft, proving mega-caps were not off limits. “It takes a profit maximizer to know a profit maximizer,” Mr. Ubben said. Bringing an activist mindset to an environmental and social investment mandate has appeal, and Mr. Ubben has raised $1 billion in capital so far.

Here are some key insights from Mr. Ubben:

  • Larry Fink’s letter ups the ante substantially. BlackRock Chairman and CEO Larry Fink’s latest annual letter to CEOs ups the ante on sustainability, calling for “a fundamental reshaping of finance.”
  • Building on multi-stakeholder and corporate purpose mandates. Climate risk as investment risk and putting sustainability at the center of investment mandates may be the most powerful driver of the multi-stakeholder, corporate purpose mandate that Mr. Fink helped usher into modern thinking in his earlier letter.
  • Sustainability is a way to get the long term back. The constituency to support sustainability includes at least two-thirds of CEOs who see it as a way to win back a long-term view from shareholders—give me more than a quarter to reallocate capital to save the world before showing returns on that investment. There are probably one-third of those that are really driven to save the world.
  • Profit maximization over decades. To make the case for profit-driven investment in sustainability, investors need to understand that the time frames must extend 30 to 40 years. Decisions made based on current values, versus terminal values, will lead to investments that will destroy capital over the next generation. They are not conducive to long-term profits.
  • Change the investor base. Thus, companies that want to embrace sustainability and long-term profitability in their corporate purpose need to move toward investors who share that purpose.
  •  This is the window to move. Not only is more research convincing more people to believe in climate risk and the need for action, but the cost of capital in the current lower-for-longer interest rate environment is conducive to making new investments and reallocating capital. As Mr. Ubben notes, we have moved from the traditional situation of being short financing to being short human, social and environmental capital.
  • The effort is capital intensive. Ultimately, the transition to sustainability will be capital intensive. Such a capital-intensive effort will require the capital structures of existing large companies. For this reason, Mr. Ubben is not a fan of villanization.
  • Big Oil capital budgets needed.  One of his investments is in Nikola Motor, for example, which is developing hydrogen fuel cells for long-haul trucking.  To move to this future, there needs to be substantial capital invested in refueling platforms and distribution. “We will need the capital budgets of a Shell or a BP to do this over the next 30 to 40 years,” he said.
  • Shifting value propositions. While shifting to long-term value propositions is one necessity for the fundamental reshaping of capitalist economies, another is a change in perception of value and unit economics. As an example, Mr. Ubben said that if biodiesel becomes mainstream, it would make sense for McDonald’s to pay customers to order french fries to generate more used frying oil to convert into fuel.
  • Utilities need pristine governance.  The grid is the most important asset in the energy economy, including a clean energy one. So it’s imperative that utilities embrace a multi-stakeholder model and adopt the best possible governance. If customers have no choice but to be utility customers, then the economy must rely on regulators and government to sustain their ESG viability. This drives Mr. Ubben’s activist investment in Hawaiian Electric Industries and his calls for a management shake-up. He favors performance-based ratemaking for utilities, encouraging them to become asset light and deploy micro grids.

Ultimately, it’s impossible to know if green activist investors like Mr. Ubben are motivated mostly by a philanthropic desire to fix a system they helped create and make capitalism work for society, or are using the increasing embrace of ESG to profit from green activism. It’s probably a bit of each. Regardless, finance professionals at multinationals have no choice but to pay attention and take action.

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Do You Need Outside Help for TMS Implementation? Maybe

Consultants can help TMS implementations, but practitioners retain some skepticism.

Implementing treasury management systems (TMS) is an arduous and complicated task that can benefit significantly from outside expertise but maintaining a skeptical eye can optimize the outcome.

Consultants can help TMS implementations, but practitioners retain some skepticism.

Implementing treasury management systems (TMS) is an arduous and complicated task that can benefit significantly from outside expertise but maintaining a skeptical eye can optimize the outcome.

ATLG members who had implemented TMSs expressed horror at the notion of returning to Excel spreadsheets. Nevertheless, TMS vendor consolidation and other factors have worsened already sketchy vendor support services, increasing the need for outside help and expertise. The peer group of assistant treasurers exchanged insights on how to best go about that:

Self-implementation is best. A member considering a new TMS said that while he’s comfortable using consultants on the front end to analyze current processes and potential treasury transformation opportunities as well as the RFP process, he and his team are debating whether to lean on outside resources to help with implementation. Another assistant treasurer (AT), whose experience included installing four TMSs, recommended treasury implement as much as possible to best understand how the system works. Be prepared for vendors’ poor after-sale service.

Some exceptions. NeuGroup members generally agreed with that advice, although one participant said her team did use a consultant to implement SAP’s treasury module, since the vendor’s “mindset” tends to be focused on enterprise resource planning (ERP) systems rather than treasury.

Consulting on infrastructure. Consultants can be especially helpful in early-on TMS implementation decisions, specifically when it comes to setting up the TMS infrastructure–such as static data, including entity and account structures, naming conventions and a variety of other items that can be difficult to change. “Things you have to live with forever,” said Tracey Ferguson Knight of HighRadius, whose prior experience spans sales, consulting and implementation services at Reval and Thomson Reuters’ TMS division.

RFP consulting concerns. A few members noted consultants’ familiarity with the range of TMS options and which may fit a company best. Ms. Knight cautioned about using consultants to guide the RFP process, however, given that many of their practices increasingly rely implementing systems. “Some are better than others, but they’re likely, even if subconsciously, to steer you toward solutions they know better, where they can earn more business on the implementation,” she said.

Make no promises. If a consultant’s systems selection help is necessary, don’t make any promises or even discuss the possibility of implementation work, to avoid potential bias throughout the implantation process, Ms. Knight said.

Just advice, please. Ms. Knight agreed that treasury should perform the bulk of the implementation itself, noting that consultants’ greatest value is advising treasury on how the TMS system works and applies to the specific business. The consultants at vendors, especially quickly growing ones, however, often have recently been hired and may not understand how to best tailor the TMS to the client company’s business. A third-party consulting firm may be a better bet, but make sure their staff is indeed experienced, since they, too—especially the biggest consulting firms—frequently bring on new hires.

One obvious solution. A participant noted her firm simply decided to hire one consultant for the RFP and a different firm for the implementation. “We selected a different one for implementation in part for price but also independence,” she said.

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What Would an AI-Driven Capital Allocation Look Like?

Perennial discussions of capital allocation tend to end up in essentially the same place.

My friend Tom Joyce at Deutsche Bank circulated the chart below last week in his “Chart of the Day” email. This one caught my eye because it shows how corporate uses of capital, at least at the S&P 500-company level, are pretty consistent year to year.

Founder’s Edition, by Joseph Neu

Perennial discussions of capital allocation tend to end up in essentially the same place.


My friend Tom Joyce at Deutsche Bank circulated the chart below last week in his “Chart of the Day” email. This one caught my eye because it shows how corporate uses of capital, at least at the S&P 500-company level, are pretty consistent year to year.

  • M&A and Buybacks. Tom calls out the changes:During the current M&A upcycle, which began in late 2014, M&A has risen as a percentage of total corporate capital allocation. Since the passage of US tax reform in December 2017, incremental earnings benefits have been disproportionately allocated toward stock buybacks.”
  • Marginal differences. Still, should we get that excited about sub-5% average increase in share buybacks? A one year 10% increase in M&A capital allocations?

It seems to me like there’s not much innovation going on with capital allocation decisions. Set your capex need based on where your products are in their life cycle, opportunistically look at liability management, set aside for anticipated M&A and then debate the merits of dividends vs. buybacks in line with your capital return guidance. Essentially a monkey could do it.

Yet, capital allocation is a perennial top project and topic for treasurers in our network. I hate to guess how many hours are spent deliberating and supporting capital allocation decisions with analysis.

  • Thought bubble. What would an AI come up with if it were tasked to optimize the allocation of corporate capital? Especially if it were not constrained with all the commonly held conventions and assumptions about how it is being done now?

If anyone has let an algo or AI loose on their capital allocation, real or hypothetical, I would love to know what that looked like. Or if you are aware of research or solutions in this area, please ping me to connect.

Capital allocation is already on the agenda for at least one of our upcoming treasurer meetings. I’d enjoy shaking up the discussion with something new and relish getting into the weeds on dividends vs. buybacks and the rest, but not if the discussions always lead people back to the same place. 

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A High Bar: Lowering Corporate Expectations and Under-delivering Successfully

Slower economic growth, tighter consumer credit put pressure on finance chiefs in Asia.

The subdued mood among participants at the recent NeuGroup meeting of CFOs in Asia reflected the difficulty many members say they are facing as China’s economic growth slows and business conditions worsen, while expectations for revenue growth at corporate headquarters remain unrealistically high.

Slower economic growth and tighter consumer credit put pressure on finance chiefs in Asia.

The subdued mood among participants at a recent NeuGroup meeting of CFOs in Asia reflected the difficulty many members say they are facing as China’s economic growth slows and business conditions worsen, while expectations for revenue growth at corporate headquarters remain unrealistically high.

Managing expectations. The key challenge, then, for some members is managing the expectations of those in the C-Suite who still want 10% revenue growth. In other words, CFOs and their teams need to figure out how to successfully under-deliver. This topic—and how to deal with failure—will be discussed at the group’s next meeting in April in Shanghai (email us about your eligibility to attend).

Tighter belts. Dealing with the fallout from lower production has meant implementing cost-cutting initiatives, and some members expect the challenging business climate and the need for belt-tightening to last three to five years.

Pressure to produce. As demand slows, members say Chinese authorities are exerting pressure on corporates to build inventory to reduce the impact on the economy and keep employment high. Much of this pressure is indirect, through so-called window guidance, which is a part of life in China and the way government agencies influence corporate behavior with unwritten rules.

Credit, not tariffs. Although trade tensions between the US and China have added to the region’s challenges, the tightening of consumer credit in China ranked as a more serious concern for many participants, based on comments during the projects and priorities session at the meeting.

  • Other concerns mentioned at the meeting include complying with China’s corporate social credit system and the wide-ranging reform of the country’s individual income tax that has implications for corporates.

Hope for the future. Members remain bullish on the long-term business prospects in China, thanks in part to the country’s population of 1.4 billion. But for now the pressure is on, and some members are searching for ways to reduce the stress. How else to explain why one finance team has created a “S— Happens Award?”

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What China’s Individual Income Tax Changes Mean for Corporates, Expats

CFOs with employees in the country need to plan for new residency rules and ensure compliance.

The most significant reform of China’s individual income tax (IIT) laws in 38 years has numerous implications for foreign workers and the multinational corporations that employ them. Michelle Zhou, a partner at KPMG, presented many of the critical elements of the changes to a group of CFOs at a recent NeuGroup meeting in Shanghai.

CFOs with employees in the country need to plan for new residency rules and ensure compliance.

The most significant reform of China’s individual income tax (IIT) laws in 38 years has numerous implications for foreign workers and the multinational corporations that employ them. Michelle Zhou, a partner at KPMG, presented many of the critical elements of the changes to a group of CFOs at a recent NeuGroup meeting in Shanghai.

Big picture. CFOs—who are responsible for income reporting—need to proactively dig into the details of the changes with tax advisors and coordinate closely with human resources departments to develop retention policies that address the potentially negative financial effects the new rules may have for some employees. These include changes in the treatment of annual bonuses and equity incentives—although not all details have been announced.

Defining residency. High on the list of takeaways is that an individual who lives in China for 183 days or more will now be considered a tax resident, instead of one year under the old rules. This has implications for whether the employee pays tax only on income sourced in China or on all of her worldwide income.
• A new “six-year rule” replaces the old five-year concession rule. Under the old policy, if a foreign worker stayed in China for five consecutive years, her worldwide income would be taxed in China. The new law extends the period to six years, allowing foreign workers in China more time to avoid paying taxes on income sourced overseas.
o Under the new rules, if the person leaves mainland China for more than 30 consecutive days at any point during the six years, the clock to count tax residency will be reset.

Tax-exempt benefits vs. itemized deductions. The new law allows foreign workers to take advantage of several new itemized deductions limited to specified amounts:
• Children’s education.
• Further education.
• Mortgage interest or housing rent
• Medical fees for serious illness.
• Elderly care.

Foreign workers who don’t take the deductions listed above can continue use tax-exempt benefits until the end of 2021 by claiming allowances of a “reasonable amount” for children’s education, language training fees, housing rental, home leave visits, relocation expenses, and meal and laundry expenses. Corporates need to make sure employees are aware of the choice and the pros and cons of their decision.

Greater Bay Area preferential tax policy. To attract highly skilled workers to a number of cities in Guangdong province, China is providing them with the incentive of an effective tax rate of 15% via a tax subsidy. The policy is effective until the end of 2023.

CFO checklist. KPMG identified several areas that fall within the CFO’s purview that require action:
• Review tax budgets and plans for the new IIT system, including interaction with payroll.
• Review compliance and implement robust policies and processes to mitigate risks; prepare for tax audit.
• Review the company’s obligation to employees, offer training on annual tax filing; work with HR on retention.
• Examine how the new rules affect business traveler risks.

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China’s Corporate Social Credit System: What Corporates Need to Know and Do Now

The implications and challenges for corporates facing a new world of ratings.

Full implementation of China’s corporate social credit system (SCS) is slated for the end of 2020—a reality with huge implications for multinationals doing business in the country. And that means more work for many CFOs and finance teams. • CFOs are often in charge of coordinating the final reporting of data provided by multiple areas of the company and ensuring there is no conflicting information. They’re also responsible for updates, the remediation of incorrect or invalid reporting, and follow-up with various agencies. It’s a huge job. Members of the NeuGroup’s Asia CFOs’ Peer Group got a helpful reality check on what corporate social credit ratings mean for them during a recent presentation by Björn Conrad, CEO of the China consulting firm Sinolytics.

The implications and challenges for corporates facing a new world of ratings.

Full implementation of China’s corporate social credit system (SCS) is slated for the end of 2020—a reality with huge implications for multinationals doing business in the country. And that means more work for many CFOs and finance teams.

  • CFOs are often in charge of coordinating the final reporting of data provided by multiple areas of the company and ensuring there is no conflicting information. They’re also responsible for updates, the remediation of incorrect or invalid reporting, and follow-up with various agencies. It’s a huge job.

Members of the NeuGroup’s Asia CFOs’ Peer Group got a helpful reality check on what corporate social credit ratings mean for them during a recent presentation by Björn Conrad, CEO of the China consulting firm Sinolytics.

The presentation included information from a study published in 2019 by Sinolytics and commissioned by the European Chamber of Commerce. In it, Chamber president Jörg Wuttke writes, For better or worse, China’s corporate SCS is here to stay and businesses in China need to prepare for the consequences, and they need to start now.”

The good news. It’s not too late to prepare. Sinolytics says “implementation gaps” will give companies time to make the necessary internal adjustments to manage their regulatory ratings and engage with government authorities on concerns, but notes that inquiries need to be detailed, concrete and technically precise. Corporate leaders need to:

  1. Understand exactly what the system requires from the business.
  2. Assess where their company stands regarding the requirements—and identify gaps.
  3. Design and implement effective internal adjustments.
  4. Continuously monitor further developments of the corporate SCS.

Hard facts. The corporate SCS assesses the behavior of companies through topic-specific regulatory ratings (e.g., tax, customs, environmental protection and product quality) and a parallel set of compliance records (e.g., anti-monopoly cases, data transfers, pricing and licenses). These ratings will be made public, meaning a company’s customers, suppliers and competitors will have access to information that may cause data privacy issues that are not yet resolved.

Sinolytics says:

  • The system covers virtually all aspects of a company’s business in China. A multinational is subject to approximately 30 different regulatory ratings—many industry-specific— and compliance records, most of which have already been implemented.
  • Each rating is computed based on a set of rating requirements. In total, an MNC can expect to be rated against approximately 300 such requirements.
  • Some requirements create strategic challenges for companies, including those relating to the behavior of business partners such as suppliers and service providers. This burdens companies with the responsibility of monitoring their partners’ trustworthiness.
  • The corporate SCS uses real-time monitoring and processing systems to collect and interpret big data, which allows immediate detection of compliance and determines a company’s social credit score.

Ratings reality. Sinolytics says algorithm-based ratings of companies will have direct consequences after the collected data is processed and rated against the defined requirements. A good rating leads to rewards and a negative performance is sanctioned.

  • Carrot: High corporate SCS scores can mean fewer audits (e.g., taxes, safety), better credit conditions, easier market access and more public procurement opportunities for corporates.
  • Stick: Low scores mean the opposite of the above, and for every negative rating, there’s already a set of sanctions in place, Sinolytics says.
    • Sanctions include penalty fees, court orders, higher inspection rates, targeted audits, restricted issuance of government approvals (e.g., land-use rights and investment permits), exclusion from preferential policies (e.g., subsidies and tax rebates), restrictions from public procurement, as well as public blaming and shaming. And don’t forget blacklisting. Sanctions can even personally affect the legal representative and key personnel of a company.

Will the system create a more level playing field?

Sinolytics says yes—in principle. “The requirements and consequences of the Corporate SCS apply to all companies registered in China, regardless of ownership structure. This might in fact translate into an advantage for international companies vis-à-vis their Chinese competitors, as many international companies feature more advanced internal compliance structures,” the study says. However, Sinolytics has these caveats:

  • The field may be more level but the game played on it will be more difficult and controlled than before.
  • The system has the potential for discriminatory use toward international companies as there is no guarantee that the ratings cannot be applied in a biased way, targeting specific companies with greater scrutiny.
  • Some of the rating requirements apply to all market participants but are more difficult for international companies to fulfill. “This appears to be the case for the State Administration for Market Regulation’s blacklisting mechanism for ‘heavily distrusted entities,’ which makes the SCS useable in trade conflicts.”
  • Chinese companies might have an advantage in navigating the intricacies of the system, and that’s potentially enhanced by better information flows from government authorities.
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Love It or Hate It, ESG Is a Key Theme for 2020

Reasons you can’t afford to leave ESG off your priority list.

ESG and related themes of sustainability and green finance are polarizing. Nearly everyone sits on a spectrum where one end thinks it’s all a bunch of hooey and the other argues it’s the key driver of finance for the next decade. Personally, I feel conflicted—one reason ESG didn’t make my initial list of key 2020 issues.

Founder’s Edition, by Joseph Neu

Reasons you can’t afford to leave ESG off your priority list.

ESG and related themes of sustainability and green finance are polarizing. Nearly everyone sits on a spectrum where one end thinks it’s all a bunch of hooey and the other argues it’s the key driver of finance for the next decade. Personally, I feel conflicted—one reason ESG didn’t make my initial list of key 2020 issues.

Mixed feelings aside, I’m convinced the decade ahead is a time to take ESG and all it brings with it seriously. As I noted in an earlier post on green finance, there’s a “tsunami” of sustainability-linked finance products coming, as a member treasurer at one company leading the way put it.

Skeptics coming around. A top M&A and activist advisor at a leading Wall Street firm confirms that even investment banking skeptics have come around to ESG and green finance being a key consideration. “We didn’t really take it that seriously until about six months ago,” he said. “Yet now it’s a strategic priority for the bank, with an executive level committee dedicated to ESG and related opportunities.”

M&A options. More specifically, ESG has opened up a lot of new thinking about what deals might win regulatory approval and political backing when presented through a sustainability lens. The advisor also said that the financing for an acquisition can be structured more favorably now if you look at sustainability finance options.

Activism. ESG was once viewed primarily as a tool for activists looking, for example, to pry open a seat on the board. Now it’s become a guiding strategy in and of itself. Look at Jeffrey Ubben’s ValueAct Spring Fund, which invests in companies aiming to address environmental and social problems. Mr. Ubben represents a new breed of ESG investors who, having made a fortune as activist investors, are now trying to make the world a better place by using their knowledge and experience—not to mention their activist aggressiveness.

Board focus. For these reasons and others, boards are also focused on ESG, so it makes sense for corporate leadership to focus on it, too. According to a recent Deloitte white paper on 2020 board agendas, “Perhaps the most dramatic development―or, rather, series of developments―that boards may need to consider in 2020 is the intense focus on the role of the corporation in society.” This includes “social purpose” but also “concerns about persistent economic inequality, climate change, and the availability and cost of healthcare, as well as concerns about the ability of governments to address these and other issues.”

Investors, workers. As a result, the paper says, ESG “has also garnered the attention of investors and others, who are increasingly asking whether and how companies are affecting and affected by environmental and social developments.” Employees are also asking. “The rise of employee activism during 2019, with actions such as work stoppages and shareholder proposals, has increased the stakes in these and other areas.”

Disclosures. Risks tend to be taken more seriously when they are disclosed prominently in public financial statements. As Deloitte notes, “Companies are being called upon by investors and others to provide disclosures concerning the ESG challenges they face and how they address those challenges.” One driver is “the rise of third parties―including so-called ‘rankers and raters’―who comment on companies’ efforts in this area, making it important for companies to tell their stories rather than let someone else do so.”

Storytelling. As more observers are noting, ESG-driven investing of corporate cash, 401(k) and pension plans, as well as corporate venture funds and M&A efforts by biz dev teams, are relatively cost effective ways to help companies tell this story. Sustainability-linked finance, given its embrace by key market participants, may be an even better way to do this. But whatever you do, put ESG on your 2020 priority list.

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Making Better Use of Data to Manage Risk

Cognitive risk sensing identifying and mitigating risk into dynamic process.

Cognitive risk sensing (CRS) is said to be the next frontier in terms of analyzing risk and addressing it in a dynamic fashion. But the approach, which should be especially helpful for internal audit (IA) and other risk functions, is still in its infancy for most organizations.

Cognitive risk sensing identifying and mitigating risk into dynamic process.

Cognitive risk sensing (CRS) is said to be the next frontier in terms of analyzing risk and addressing it in a dynamic fashion. But the approach, which should be especially helpful for internal audit (IA) and other risk functions, is still in its infancy for most organizations.

Neil White, risk and financial advisory principal and global internal audit analytics leader at Deloitte, said organizations have used structured data from areas such as operations and human capital to judge risk, often very effectively. However, such analysis tends to be backward looking.

Outside in. More recently, companies have started to tap unstructured data from outside the organization, an approach that has been used for some time in areas such as marketing and sales. But now is being applied to risk. Essentially that means pulling vast quantities of that data together from social media and other media sources, often using third-party aggregators. Quickly evolving technology such as natural language processing, machine learning and other forms of artificial intelligence now enables the analysis of that data that wasn’t possible before.

Room for growth. CRS is being applied by a still relatively small percentage of companies, according to a recent survey of C-suite ad other executives conducted by Deloitte. Just over 25.4% said their organizations collect and analyze external, open-source data as part of an IA function, and only 5.3% said they’re using it across the organization, with 30.6% saying they’re lagging.

Many of those companies using CRS today are likely in the financial services industry, which Mr. White said has been ahead of the game, adding Deloitte is also working with organizations in the healthcare and consumer-products space. A financial services firm, for example, can collect open-source and unstructured data about regulatory, technology and other issues impacting competitors, and using that information to determine how it, too, may be impacted.

Intelligent ML. “Now we’re starting to see risk insight being drawn from external data sources, with more intelligent ML learning models, resulting in a more resilient organization that can respond more quickly to those risks,” Mr. White said.

Since ML and similar technologies are more readily available and understood, Mr. White said. “We’re starting to see those applications into other parts of the risk world.”

For example, in the supply chain, domain specialists will use CRS for forward-looking insights to identify the potential commodities shortages in key markets or supply chain disrupted due to labor. “A large food distribution company using this for a more forward looking view on whether there will be disruptions to the underlying ingredients that go into those food products,” he said, adding that Deloitte is working with a medical device company using this approach to monitor potential risks in 14 different domains.

“It’s the first time we’re moving into a more forward-looking risk world and not relying entirely on the human knowledge within the organization,” Mr. White said, “And to me that’s what’s really exciting about this.

Dynamic response. He added that especially exciting is CRS enabling IA to get closer to the concept of real-time assurance, which, helps IA move a little closer to the genesis of the risk and respond more dynamically and provide more timely assurance.

“So it’s not just about a tool to peek over the horizon. Those companies who are doing CRS well are changing their entire risk response process and how they align talent, increasing the regularity with which they refresh their risk register and updating audit plans,” Mr. White said.

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Rising Insurance Premiums Inflict Pain, Require Pushback

D&O prices spike as insurers respond to a surge in claims following a Supreme Court decision.

Rising insurance premiums had treasurers and assistant treasurers at a recent NeuGroup meeting using plenty of colorful language to describe the current market for coverage and the pain some carriers have caused with their initial pricing proposals.

D&O prices spike as insurers respond to a surge in claims following a Supreme Court decision.

Rising insurance premiums had treasurers and assistant treasurers at a recent NeuGroup meeting using plenty of colorful language to describe the current market for coverage and the pain some carriers have caused with their initial pricing proposals.

  • Among the tamer comments, one member said the directors and officers (D&O) market is the “ugliest in years” and that “a lot of frustration” erupted in her department when the first price quotes arrived. She added that she’s seeing increases in “all areas” of coverage and that her company “almost dropped” its primary D&O carrier.
  • Another treasurer whose company buys insurance in the UK said insurers in that market that had been mispricing D&O coverage have reversed course and are raising premiums.

Sources of pain. Among the reasons for rising D&O premiums, members say insurers are citing an increase in claims and more lawsuits following a 2018 US Supreme Court decision known as Cyan that actuarial consultant Milliman says, “allows 1933 Act lawsuits to proceed in state courts, which eliminates the ability to consolidate cases. This doubles the number of cases and costs to the offending company.”

Time-consuming pushback. One treasurer said negotiating lower premiums required repeatedly “going back” to the insurer and that “it took a monumental amount of time to get it down.” Another participant said renewing property insurance “takes months” while a third said his company recently put out an RFP for property coverage.

  • The insurer for one company wanted to raise its D&O premiums 37% but the treasurer said the actual increase ended up being “much less” after lots of back-and-forth.
  • Several treasurers said their frustration with price increases partly reflects that their companies have paid millions of dollars in premiums to insurers over the years but have never made a claim—or have made very few—one of the arguments they make in negotiating lower increases.
  • Some companies are moving away from buying “ABC” coverage for D&O and are just buying side A, which covers D&O liabilities that cannot be indemnified by the company.

Bigger picture. The bleak picture of the commercial insurance market for corporates that emerged at the meeting is consistent with trends captured by the Marsh Global Insurance Market Index:

  • Global commercial insurance prices rose by 7.8% in the third quarter of 2019, the eighth consecutive quarter of price increases. The third-quarter rise in pricing was the largest year-over-year increase in the index since its inception in 2012.
  • In the US, financial and professional (FinPro) liability pricing increased by 11%, driven by directors and officers (D&O) pricing. “Factors contributing to the market firming include increased litigation with event-driven lawsuits expanding to areas such as #MeToo, cyber breaches social media and safety,” Marsh said. Cyber insurance pricing increased by nearly 3%.
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The Art—Not Science—of Matching Capital Allocation to the Situation

Treasurers discuss their palette of ways to achieve balance sheet flexibility amid binary events and M&A.

Decisions about capital allocation help treasury pave the way for the road ahead and may take on added importance for businesses generating lots of cash—as well as for those whose growth is downshifting. Treasurers at a recent NeuGroup meeting of life sciences companies shared approaches to the challenges of allocating capital during a variety of scenarios and situations.

Treasurers discuss balancing the need for liquidity with keeping cash levels moderate as business ebbs and flows.

Decisions about capital allocation help treasury pave the way for the road ahead and may take on added importance for businesses generating lots of cash—as well as for those whose growth is downshifting. Treasurers at a recent NeuGroup meeting of life sciences companies shared approaches to the challenges of allocating capital during a variety of scenarios and situations.

Optimal capital allocation amid uncertainty. One treasurer told the group that his team is taking “a step back” to consider the optimal capital structure for the circumstances facing his life sciences company, including binary events where the outcome is either a win or a loss:

  • A patent challenge that could lead to generic competition earlier than anticipated on a top-selling drug.
  • Waiting for the FDA to approve or reject a new drug that could significantly broaden the product line.
  • Bonds maturing and a revolving credit facility up for renewal in 2020.

Flexibility desired. Given the number of possible outcomes, the treasurer wanted to position the company to have “balance sheet flexibility.” He asked how others in the group are looking at leverage to construct a capital structure flexible enough to “do large business development” but not carry “too much cash.”

  • After considering various scenarios, the treasurer is considering raising the company’s leverage while avoiding having its ratings lowered.
  • If it were just up to him, he would let the company’s revolver expire and not renew it because of a considerable cash balance and the fact that its capital markets issuance will likely be limited to “one big bond deal” in the next five years.
  • He’s confident that given the company’s credit rating he will almost always be able to access the capital markets—or obtain funding through banks, based on the large number of them soliciting business.
  • About a month after the meeting, the company’s board authorized a $5 billion stock repurchase program, “adding additional share repurchase capacity to the toolbox,” he said.

Share buybacks. The subject of stock repurchase programs like the one approved by the company referenced above generated a range of commentary at the meeting, including one member who said life sciences companies that are enjoying a surfeit of cash because of large profit margins often decide to buy their own stock because if they don’t, “someone else”—an activist shareholder—will force them to do it.

  • The perceived threat of activist shareholders was among the reasons another treasurer at the meeting cited for actions his company took in the wake of selling an asset for billions of dollars a few years ago. “We did have some activists sniffing around because when you have that much cash, they want a return vs having it foolishly spent in the eyes of investors,” he said.

Adapting to change. This treasurer described the transition from “running the tanks fairly dry” in terms of cash before the sale of the asset to having a switch flipped, forcing the company to decide how to redeploy a surplus of cash. It considered business development, debt paydowns and shareholder returns. Contemplating the different combinations involved questioning the market’s view of the company’s identity. “Are we still growth pharma or are we something else,” the treasurer said. 

Seeking guidance. This company sought the advice of rating agencies and engaged with their advisory services as it weighed how much cash to keep. Because it had sold assets that were accretive to EBITDA, it elected to pay down billions of dollars in debt so its leverage ratio didn’t spike, focusing on term loans that allowed the treasurer to “delever the balance sheet quickly.” He added that EPS dilution is another issue to consider when a company sells accretive assets and contemplates share buybacks.

Dividend dynamics. In addition to expandingits share buyback program, this company decided to initiate a dividend (after deciding against a major acquisition). This, too, came after treasury consulted with credit rating agencies to make sure its ratings wouldn’t be lowered after initiating the dividend.

  • In discussing the size of dividends, one treasurer said that “no one cares” about a dividend that is too small. Another made the point that investors expect dividend growth and that once you start paying one “you can’t shut it off.” For that reason, a third person said that stopping a dividend can have bigger implications than curtailing a share buyback program.
  • One treasurer said his company was once considered a growth company by investors but not so much any longer; but it doesn’t pay a dividend, something investors expect from a value stock. He said this raises the risk that the company is viewed an “orphan”—one investors don’t know how to classify.

Communicating with shareholders. The company whose cash levels soared after selling the asset received lots of questions from investors, including activists. Leadership communicated its capital allocation plans and leverage ratio goals on earnings calls.

  • Another treasurer said addressing cash balances and capital allocation are major priorities, has discussed the issue with the board, and for the first time the company “verbalized” its capital allocation strategy on an earnings call and announced the initiation of a $1 billion stock buyback program. Management also stressed that investing in internal research and advancing the pipeline remains its top priority.

A pipeline priority, a cash flow model. One treasurer who described his pharmaceutical company’s capital allocation process and model emphasized that it starts with “the pipeline” and “how the business uses cash.”  He said that like other members, the goal is to have the flexibility to respond to business needs quickly by anticipating how much liquidity could be required for different scenarios. He noted that tax reform in late 2017 represented a milestone in the company’s approach to cash and capital allocation.

This cash flow-based model approach involves:

  • Examining the business’s R&D, M&A and collaboration needs.
  • Determining the right amount of leverage and desired credit ratings after establishing relationships with rating agencies.
  • After determining how much is needed to satisfy those cash flow needs, the company decides how much to allocate to shareholder returns through buybacks and dividends.

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Reimagining the Finance Future in 2020

Founder’s Edition, by Joseph Neu

Five items for finance leaders to focus on in 2020 and beyond.

2020 is upon us and the year itself has vision and foresight in its name. Accordingly, it affords us all an opportunity to seek clarity on not just what the year will bring but also a view of what’s in store for the new decade. For finance practice leaders, I see five issues to focus on starting this year and for the coming ten.

Founder’s Edition, by Joseph Neu

Five items for finance leaders to focus on in 2020 and beyond.

2020 is upon us and the year itself has vision and foresight in its name. Accordingly, it affords us all an opportunity to seek clarity on not just what the year will bring but also a view of what’s in store for the new decade.

For finance practice leaders, I see five issues to focus on starting this year and for the coming ten:

  1. Get serious about digital workers. There has been a lot of hype and fanfare, fits and starts when it comes to robotic process automation and AI in the finance function. But this is the year and decade where it starts to get real. And the finance function is a great petri dish to see how it grows because (1) much of what finance practitioners do is numbers or logic driven and (2) much of finance is seen as a cost center where productivity, scale and cost mitigation are critical, and, in the front office, speed and rapid processing of data gives machines an advantage. Starting this year, make sure you are scaling your human team and refocusing their work on where they can thrive by giving them digital assistants and co-workers to better support them.
  2. Be ready to phase out Libor. While you may think you have until the end of 2021 to prepare, the more important date may be when liquidity shifts from Libor-quoted instruments to those quoted in the secured overnight financing rate (SOFR) or other “ibor” replacement rates. Regulators will be deploying more stick than carrot now to ensure regulated institutions move off Libor and thereby incent the rest of the market to follow their liquidity and do the same. Corporates may see a similarity to the efforts to move derivatives to central clearing. While you won your exemption there, I still wonder about the liquidity premium you are paying to trade OTC. With Libor, I don’t think you will get an exemption beyond the ability to translate Libor references in commercial contracts to a common translation to SOFR, so you don’t need to renegotiate each one. Something like that for outstanding loan agreements made prior to a viable alternative reference rate being available might be helpful, too, but less likely. Be ready for when the market shifts.
  3. Think differently about bank relationships. The digital disruption of banks and financial services should accelerate this decade. With this happening, finance practitioners need to think differently about their bank relationships, the types of services they should expect from them and how they should pay for them. Different thinking about banks best starts with the credit relationship and a bank’s willingness to commit to a credit facility as the key driver of the relationship and allocation of spend (wallet). The promise of open banking and APIs to allow more seamless interoperability between providers, be they banks or non-banks, will not be fully realized until the paying for bank credit via other means fades away.
  4. Think differently about sources of funding. The digital disruption of funding and related corporate finance services goes hand in hand with decoupling bank relationships from credit commitments. Data and insight, plus predictive foresight about a firm’s business and resulting cash flows, current and potential, will increasingly drive credit analysis and access to funding. This will transform credit pricing and availability. How can you manage a bank wallet where the pricing and nature of credit and funding is transforming while the pricing and nature of services to pay for the credit and funding is similarly transforming at an exponential pace? You cannot do it, so don’t.
  5. Rethink the finance function. Considering all the above, including the replacement of a fundamental touchstone like Libor, it is hard to see how the finance function at the end of this decade should look the same as it does now. Especially if you consider all I haven’t said about digital transformation for all organizations and the finance functions to support them. Time to up the pace of change. There has been significant attention paid to reorganizing, optimizing and re-skilling the finance function in recent years, but it may be time for a clean sheet rethink of why a corporate finance function exists, what is seeks to accomplish, for whom and how best to go about this. At a minimum, many of the silos, especially between technical/specialist areas like treasury and tax, probably should be broken down. If you were to create a greenfield finance function at a start-up growing extremely fast, what would that look like? And would you let it evolve to one like a Fortune 100 company’s today or something much different? 

Seeing 2020 written, it seems to me like we should be closer to the imagined future than we are in too many ways. Let’s get caught up to the future we’ve imagined.

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CECL Important for Nonfinancial Companies, Too

Nonfinancial corporates extending credit must also prepare for CECL.

Calendar year companies must apply new accounting for credit losses at the start of the year, in Q1 2020 financial statements, and that includes nonfinancial corporate creditors engaged in a variety of transactions.

 

Nonfinancial corporates extending credit must also prepare for CECL.

Calendar year companies must apply new accounting for credit losses at the start of the year, in Q1 2020 financial statements, and that includes nonfinancial corporate creditors engaged in a variety of transactions.

The Financial Accounting Standards Board’s new current expected credit losses (CECL) methodology replaces the incurred-loss method, which recognizes losses when they become probable. CECL, instead, requires lenders to recognize credit losses expected over the life of a loan on day one, and while the new accounting standard has been mostly associated with banks, nonfinancial corporates engaged in credit arrangements will also be affected.

Tom Barbieri, a partner in PwC’s national office, said CECL may cover a range of corporate exposures, including trade receivables, employee receivables, where companies grant loans to employees, and credit guarantees. Rather than looking at historical loss rates, companies will have to consider current conditions and a reasonably supportable forecast in order to recognize upfront the credit losses expected over the life of the a loan.

More judgment. With trade receivables, for example, companies will have to try to anticipate the state of the economy over its forecast period as well as the state of the company the receivable is from and its specific industry. The longer a company’s forecast period, the more judgmental it becomes. “Corporate finance should be thinking about how it will determine those judgments and whether they’re reasonable, and quite frankly whether they’re explainable to the marketplace if the number is significant,” Mr. Barbieri said.

Business impact. The longer the life of the receivable, the higher the potential for losses and consequently the loss recognized upfront. Mr. Barbieri noted that may impact the life of receivables or other credit transactions companies engage in. “Those types of decisions will play a part in decisions going forward when companies extend credit,” Mr. Barbieri said.

A strange animal. Credit guarantees, where a company is guaranteeing that a joint-venture or other partner will repay its bank loans, are not funded loans. However, existing GAAP requires recording such guarantees at fair value on day one, and CECL adoption will require a reserve then. “So you have two liabilities on day one, which can be a bit counterintuitive for most nonfinancial services companies,” Mr. Barbieri said.

Sound controls. Treasury, accounting and other relevant parts of finance must jointly ensure that controls and procedures over the CECL process are sound, including the assumptions as well as the completeness and accuracy of data being used, Mr. Barbieri said.

Talk to your banks. Banks must also recognize upfront the potential losses on their loans, and that may impact the loans they provide. “When banks have higher CECL reserves, they’ll have to put away additional capital, and that may affect terms in loan agreements. Bank may be incented to provide shorter-term borrowerings,” he said.

Testing now. Companies with more sophisticated finances, especially longer dated ones, should probably have already started running the two accounting methods in parallel. “To the extent the CECL transition amount is material, it should be disclosed in year-end 10K reports.”

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Corporate Finance Ranks Most Concerned About 2020 Risks

What, me worry? Yes! Finance execs most worried about risks in the new year.

Corporate finance executives have jumped to the lead in terms of companies’ top executives concerned about the magnitude and severity of risks their organizations face in 2020, with economic conditions and regulatory scrutiny their top concerns.

What, me worry? Yes! Finance execs most worried about risks in the new year.

Corporate finance executives have jumped to the lead in terms of companies’ top executives concerned about the magnitude and severity of risks their organizations face in 2020, with economic conditions and regulatory scrutiny their top concerns.

On a scale of one to 10, chief financial officers’ impression of risk faced by their companies in the year ahead jumped to 6.5 from 6.0 in last year’s survey. That puts them in the lead from fifth place last year, out of seven categories of surveyed executives that comprised board members and six types of C-suite executives. Dr. Mark Beasley, professor and director of the Enterprise Risk Management Initiative (ERMI) at N. Carolina State University, noted that chief audit officers’ assessment of risk also increase noticeably from last year, and chief risk officers’ bumped up slightly, to 6.0 from 5.9.

Chief executives officers and boards of directors instead saw their concerns about risk lesson in this year’s study compared to last year’s.

The research was conducted by ERMI and consultancy Protiviti, and co-authored by Mr. Beasley and Ken Thomas, a managing director in Protiviti’s Business Performance Improvement practice. The survey received responses from 825 C-Suite executives and directors in companies across the globe. The top five concerns for CFOs were:

Economic conditions. Although the second concern overall, CFOs marked economic conditions starting to restrict some growth opportunities as their top concern, a big jump from last year’s survey when it was not even among the top 10 risks.

Regulatory changes and scrutiny. CFOs worry that an emphasis on regulations may increase and noticeably affect the manner in which their companies’ products and services will be produced or delivered. Mr. Beasley noted that the regulations extend beyond financial requirements to areas such as privacy, with European privacy regulations already in effect and those in California arriving in 2020, and increased government scrutiny of business models such as the big technology firms’.

Resistance to change. As innovative technology is deployed at an ever more rapid pace, CFOs are concerned about their organizations’ ability to embrace that change and remain competitive.

Top talent. Related to the previous concern, CFOs are concerned about their companies’ ability to attract and retain top talent in a tightening talent market, and consequently their ability to achieve operational targets. “How does [corporate finance] move from more production-type activities to more machine learning and other artificial intelligence technologies, taking people away from the analytics they used to spend time on and using that talent in the most efficient way,” Mr. Thomas said.

Cyber, of course. Pervasive across companies, cyber-risk concerns keep CFOs awake at night worrying about whether their organizations are sufficiently prepared to manage cyber threats that could significantly disrupt core operations and/or damage the company’s brand. Mr. Thomas noted that finance departments’ increasing use of technology-driven analytics ingests pulls data from multiple sources, heightening the risk. “Companies are moving to more tech-driven activities and operations that rely ever more on sources of data that can be impacted,” he said.

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Among Execs, CFOs Most Worried About 2020 Risks

CFOs are more worried about 2020 risks than others in the C-Suite: study.

Corporate finance executives are leading the pack in terms of company executives most worried about the magnitude and severity of risks to their organizations in 2020, according to a study by the Enterprise Risk Management Initiative (ERMI) at North Carolina State University and Protiviti.

On a scale of 1-10, with 10 being most concerned, chief financial officers’ impression of risk faced by their companies in the year ahead jumped from last year’s survey, up to 6.5 vs. 6.0 last year, putting them far ahead of their fifth-place slot last year. This is out of seven categories of surveyed executives made up of board members and six types of C-Suite executives.

CFOs are more worried about 2020 risks than others in the C-Suite: study.

Corporate finance executives are leading the pack in terms of company executives most worried about the magnitude and severity of risks to their organizations in 2020, according to a study by the Enterprise Risk Management Initiative (ERMI) at North Carolina State University and Protiviti.

On a scale of 1-10, with 10 being most concerned, chief financial officers’ impression of risk faced by their companies in the year ahead jumped from last year’s survey, up to 6.5 vs. 6.0 last year, putting them far ahead of their fifth-place slot last year. This is out of seven categories of surveyed executives made up of board members and six types of C-Suite executives.

Dr. Mark Beasley, professor and director of the ERMI, noted that chief audit officers’ assessment of risk also increased noticeably from last year, and chief risk officers bumped up slightly as well to 6.0 from 5.9. Meanwhile, chief executive officers and boards of directors saw their concerns about risk decrease in this year’s study.

The research was co-authored by Dr. Beasley and Ken Thomas, a managing director in Protiviti’s Business Performance Improvement practice. The survey received responses from 825 C-Suite executives and directors in companies across the globe.

The top five concerns for CFOs were: 

  • Economic conditions. CFOs saw economic conditions starting to restrict growth opportunities as their top concern, a big jump from last year’s survey when it was not even among the top 10 risks.
  • Regulatory changes and scrutiny. CFOs worry that an emphasis on regulations may increase and noticeably affect the manner in which their companies’ products and services will be produced or delivered. Mr. Beasley noted that the regulations extend beyond financial requirements to areas such as privacy, with European privacy regulations already in effect and those in California arriving in 2020, and increased government scrutiny of business models such as the big technology firms.
  • Resistance to change. As innovative technology is deployed at an ever more rapid pace, CFOs are concerned about their organizations’ ability to embrace that change and remain competitive.
  • Top talent. Related to the previous concern, CFOs are concerned about their companies’ ability to attract and retain top talent in a tightening job market, and consequently their ability to achieve operational targets. “How does [corporate finance] move from more production-type activities to more machine learning and other artificial intelligence technologies, taking people away from the analytics they used to spend time on and using that talent in the most efficient way,” Mr. Thomas said.
  • Cyber, of course. Pervasive across companies, cyber-risk concerns keep CFOs awake at night worrying about whether their organizations are sufficiently prepared to manage cyberthreats that could significantly disrupt core operations and/or damage the company’s brand. Mr. Thomas noted that finance departments’ increasing use of technology-driven analytics ingests pulls data from multiple sources, heightening the risk. “Companies are moving to more tech-driven activities and operations that rely ever more on sources of data that can be impacted,” he said.
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Deutsche Bank: Floating-Rate Debt’s Historical Attractiveness vs. Fixed Is Falling

A falling term premium suggests fixed-rate debt is a better bet for issuers; but the evidence is mixed.

Backtesting shows that issuing floating-rate debt has been cheaper than fixed-rate for corporates over the long run. But the co-head of Deutsche Bank’s risk management solutions team for North America told treasurers at a recent NeuGroup meeting that floating-rate debt currently does not look nearly as attractive relative to fixed as it once did.

“Whatever you thought about fixed vs floating before, on a relative basis, floating rate is less attractive,” Matthew Tilove, Deutsche Bank managing director, said in a follow-up interview. “Looking forward, it is hard to see how floating-rate debt can outperform fixed by the historical average of 200 basis points or more.”

A falling term premium suggests fixed-rate debt is a better bet for issuers; but the evidence is mixed.

Backtesting shows that issuing floating-rate debt has been cheaper than fixed-rate for corporates over the long run. But the co-head of Deutsche Bank’s risk management solutions team for North America told treasurers at a recent NeuGroup meeting that floating-rate debt currently does not look nearly as attractive relative to fixed as it once did. 

  • “Whatever you thought about fixed vs floating before, on a relative basis, floating rate is less attractive,” Matthew Tilove, Deutsche Bank managing director, said in a follow-up interview. “Looking forward, it is hard to see how floating-rate debt can outperform fixed by the historical average of 200 basis points or more.” 

Term premium falls. One basis for that conclusion—and a way to measure the relative attractiveness of floating vs fixed rates—is the term premium, the excess yield that investors require to commit to holding a long-term bond instead of a series of shorter-term bonds.

As the term premium rises, so does the attractiveness of floating-rate debt relative to fixed for issuers. But the term premium has been falling steadily and, Mr. Tilove notes, appears historically low. Reasons for this include very low inflation and demand for long-dated fixed-rate assets.

Mixed signals. The low level of the term premium, then, suggests that fixed-rate debt is relatively more attractive now than floating. In theory. I would say that every indicator that we could use to evaluate fixed versus floating is saying you should be fixed, given that there is currently the lowest term premium ever,” Mr. Tilove said.

  • “However, it is also the case that those indicators have sometimes been totally wrong,” he added. Most notably, term premium was also at a historical low a year ago, yet Deutsche Bank’s analysis shows that a year ago would have been among the best times to swap debt to floating. 

What gives? One possible reason for the current disconnect between the low term premium and the recent outperformance of floating-rate debt, Mr. Tilove said, is that the market simply failed to anticipate the decline in rates over the past year. Another possibility is that the standard models that seek to estimate the term premium are flawed. If this is the case, perhaps the term premium is not really as low as it seems, and floating-rate debt may indeed be expected to outperform fixed.

Bottom line. Despite the caveats and qualifiers, the takeaway remains that floating-rate debt does not offer the same cost-saving advantages it once did, which will come as no surprise to treasury teams that have been terminating fixed-to-floating-rate swaps and locking in ultra-low fixed interest rates as they refinance higher-yielding issues. Going forward, Mr. Tilove expects the term premium to return to more historical norms—meaning floating-rate will regain some of the luster it has lost. That said, he believes the term premium will be “permanently lower” in the future than in prior decades owing to changes in monetary policy, among other reasons.

Real world. But whatever happens with rates or term premiums, treasurers constructing a capital structure that best meets their companies’ needs have lots to consider, including cash flows, liabilities and the cyclicality of the business. All these factors—as well as their interest rate expectations—come into play when deciding the right proportion of fixed-rate vs. floating-rate debt.

As one NeuGroup member put it after hearing the Deutsche Bank presentation, the decision of whether to add more fixed-rate debt depends on the answer to the question, “What riddle are you solving with your risk management?”

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Taking a Leap: Learning to Become an Exponential Organization

Founder’s Edition, by Joseph Neu

Like so many companies, NeuGroup is rising to the challenge of becoming exponential.

The recent FinConnect event we helped facilitate for SoftBank’s Vision Fund I CFOs helped me to see NeuGroup’s own path to higher growth, thanks to the insights of the keynote speaker we enlisted (hat tip to Peter Marshall at EY). The speaker was the futurist Salim Ismail, author of Exponential Organizations.

 

Founder’s Edition, by Joseph Neu

Like so many companies, NeuGroup is rising to the challenge of becoming exponential.

The recent FinConnect event we helped facilitate for SoftBank’s Vision Fund I CFOs helped me to see NeuGroup’s own path to higher growth, thanks to the insights of the keynote speaker we enlisted (hat tip to Peter Marshall at EY). The speaker was the futurist Salim Ismail, author of Exponential Organizations.

  • Mr. Ismail advises companies on how to achieve exponential growth and thrive rather than be disrupted by digital technology and the transformative forces it is unleashing on almost every type of business. His research has identified 11 attributes that define exponential organizations (aka ExOs) or those likely to scale successfully.

What’s our MTP? According to Mr. Ismail, you need at least four attributes of an ExO to succeed and the most important is to have a massively transformative purpose (MTP), which is a higher aspirational objective that captures hearts and minds inside and outside the organization. TED’s “Ideas Worth Spreading” is one example.

We took a big step in this direction by being all about the success of our members and those who serve them to reach their full professional potential with connect, exchange and distill: Connecting you to share and learn, and distilling insight from those exchanges for mutual success. Yet, that’s not massively transformative enough, simple enough nor aspirational enough to grow to our potential. So look for this to change. 

Suppress the immune system. The other important takeaway is that to succeed with exponential thinking and achieve unthinkable growth you must overcome the immune system that exists in any organization, which not only resists change but works actively to kill it and stop the transformation from happening.

Knowing that this is the case in every organization makes it easier for me to lean into the effort to change—and it should help you change, too. Why not ask every stakeholder to help embrace a new, massively transformative purpose and help you fight the natural organizational immune system and transform your organizations?

Help us help you. We are here to help you do this. And since we value those who give to get, I am also asking you to help me transform NeuGroup to reach its full potential and embrace a more transformative purpose to connect all finance professionals who want to share and learn—not just peer group members—everyone, everywhere, in any way we can imagine.

Mutual value. In this way, we encourage every financial professional to help your companies become exponential organizations and embrace a digital mindset. This will also shift finance leaders from being naturally associated with being part of the immune system (e.g., “What you’re proposing is not in the budget plan.”)

  • We pledge to help you with our unique knowledge, insight and connections. And if you also help us scale our ability to source new connections and insight validated via knowledge exchange, we will in turn create more mutual value and wealth for our entire community—and the crowd beyond it that shares our mission.

Coming to this insight (don’t be afraid of a massively transformative purpose and realize that it is natural for the immune system in your organization to fight your effort to embrace exponential thinking) has been liberating.

  • I hope every organization reading this can, like me, be liberated and gain the confidence needed to transform. I expect 2020 to be the most transformative year of my entire career for everyone who is part of NeuGroup. 

Thanks for being a part of it.

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Preparing to Plow Through The Next Recession

How one company survived the Great Recession, and advice on how to prepare for the next downturn.

With an economic slowdown looming—even if no one knows exactly when it will occur or how severe it will be—companies must prepare for the worst. It doesn’t get much worse than the slump Caterpillar Inc. experienced in 2009, when sales and revenue plummeted. But the company remained profitable and maintained its dividend. How did Caterpillar achieve its remarkable performance?

How one company survived the Great Recession, and advice on how to prepare for the next downturn.

With an economic slowdown looming—even if no one knows exactly when it will occur or how severe it will be—companies must prepare for the worst. It doesn’t get much worse than the slump Caterpillar Inc. experienced in 2009, when sales and revenue plummeted. But the company remained profitable and maintained its dividend. How did Caterpillar achieve its remarkable performance?

Recession planning was the focus of a recent NeuGroup meeting, where Ed Scott, senior executive advisor at NeuGroup and retired treasurer at Caterpillar, discussed the global company’s recovery methodology. He also noted some questions for treasury executives to ponder before the storm hits:

  • What approach is your company taking to prepare for a possible recession?
  • What are your company’s critical success factors that must be protected?
  • What levers/workstreams are necessary to protect those factors?
  • What is treasury’s role in the company in planning for and fighting a recession?

During the Great Recession, Caterpillar’s sales fell 37% and its profit dropped to $895 million from $3.6 billion. The company took a $3.4 billion charge to equity, and debt as a percentage of debt and equity soared to 59.7%, well above the company’s preferred maximum of 45%.

Caterpillar’s single-A rating, necessary to fund its captive finance company, was in jeopardy. So the company pursued the MAST methodology, which Mr. Scott said can be applied to virtually any significant project or initiative:

  • Meaning. Why take action? For Caterpillar, it was to remain profitable, avoid cutting its dividend, and protect its rating.
  • Action. Establish workstreams, which in Caterpillar’s case numbered 10 and included reducing inventory, closely monitoring the financial health of critical dealers and suppliers, aggressively pursuing collections and increasing liquidity as needed. Mr. Scott noted that each workstream had a designated owner.
  • Structure. The cadence to make sure the plan is carried. Caterpillar’s CFO, treasurer and controller met every Friday at 6:30 a.m. with all the workstream leaders to review and document progress over the last week and discuss the week ahead. “Why so early? Because nobody has a meeting at that time, so everybody had to show up,” Mr. Scott said.
  • Truth. Metrics for each workstream were key to tracking progress and eventual success. “It’s very important to define the critical success factors and the metrics to achieve that,” Mr. Scott said. 

In terms of preparing for a recession, Mr. Scott said, analyzing how much sales will likely drop, or trough planning, is key, and pressure testing is also important. “Think about what the company could do if it had a 20% or 30% drop in sales,” he said.

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Group Therapy for FX Systems Pain: Misery Loves Company

FX managers for the most part like their systems. But there’s always that one thing that creates a headache.

Leo Tolstoy famously posited that “All happy families are alike; each unhappy family is unhappy in its own way.” That line from “Anna Karenina” can definitely be applied to treasury practitioners and their systems.

  • In a discussion at a recent NeuGroup meeting jokingly dubbed the systems “misery montage,” three FX managers members shared their biggest pain points, most of which derive from the fact that the FX function depends on several different systems vendors to manage the workflow end-to-end, and they don’t always “talk to each other” all that smoothly.

FX managers for the most part like their systems. But there’s always that one thing that creates a headache.

Leo Tolstoy famously posited that “All happy families are alike; each unhappy family is unhappy in its own way.” That line from “Anna Karenina” can definitely be applied to treasury practitioners and their systems.

  • In a discussion at a recent NeuGroup meeting jokingly dubbed the systems “misery montage,” three FX managers members shared their biggest pain points, most of which derive from the fact that the FX function depends on several different systems vendors to manage the workflow end-to-end, and they don’t always “talk to each other” all that smoothly.

Must-do automation projects and bot opportunities. First up, a member with a specialist risk and hedge accounting system lamented the lack of an automated way to exchange data between that system and SAP, particularly end-of-month valuations, currently done on Excel, and said that it’s a “huge project to map entity names and trading, hedge accounting, EMIR and Dodd-Frank reporting from that module to SAP in the way that accounting wants it.”

  • A second big pain point is the lack of automation in daily cash management, which relies too heavily on reporting instead. For aggregating balance sheet exposure data, another member suggested using a bot.

Map out pros and cons and ID alternatives. The second member shared a detailed table of workflow tasks and the pros and cons of the system used for those tasks at the time — including cost, reliability, service levels and internal IT needs — as well as possible alternative vendors for those processes, a handy way to analyze the situation.

  • One of his pain points was netting for settlements. He also called out various areas where the hedge accounting system was buggy, for example in trade valuation and the journal entry process, not to mention that the vendor provided “poor customer service” on top of a “lengthy implementation.” Still, the pain may not have risen to merit the cost and time of switching to one of the alternatives.

Vendor-client process fit? The final member to present showed her systems setup, which overall she was happy with. However, one link in the chain was problematic. The hedge accounting vendor was rather “inflexible” about wanting all the company’s exposures “in their tool and then they want to tell you what your trade should be,” the member said. “But we have our own exposure tool and it’s not our process [to outsource hedge decisions].”

One of the breakout huddles at the meeting also tackled systems and automation; some of the takeaways included:

  • How do you quantify the business benefits of robotic process automation, especially if you have to fight for IT resources to complete automation projects? And, as one member pointed out, automation does not equal head count reduction, so it’s hard to prove.
  • A straightforward systems implementation can be complicated enough, but companies faced with a steady stream of acquisitions — like many in the group — are always catching up.
  • M&A in the systems vendor space complicates things further, especially the customer service issues that have arisen from consolidation and dislocation in that industry.
  • Some keys to implementation success:
    • Thorough testing. Test every currency pair, every type of transaction, every counterpart with a penny-value transaction. “We found so many issues that way,” said a member with a huge systems transformation underway.
    • Resourcing. Work to get buy-in for the project as business-critical at the highest level possible in the organization. That increases the chances of an adequate budget and it will attract the best people to the project.
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Back to the Future: Making Banks a Source for Innovative Solutions Again

Founder’s Edition, by Joseph Neu
 
Working to reverse the notion that banks are no longer a source for innovative solutions.

One of the trends we’ve seen in interacting with NeuGroup members recently is their concern that banks are no longer the source for innovation or solutions that tap the most innovative technology and digital thinking.

And banks seem to be hearing this message, prompting them to respond to counter that perception. Unfortunately, some banks find it easier to respond with platitudes about how they are adopting new digital mindsets, embracing open APIs and investing in digital innovation centers, rather than to actually rolling out game-changing new digital solutions to corporate clients.

In addition, we see banks: 

Founder’s Edition, by Joseph Neu

Working to reverse the notion that banks are no longer a source for innovative solutions.

One of the trends we’ve seen in interacting with NeuGroup members recently is their concern that banks are no longer the source for innovation or solutions that tap the most innovative technology and digital thinking.

And banks seem to be hearing this message, prompting them to respond to counter that perception. Unfortunately, some banks find it easier to respond with platitudes about how they are adopting new digital mindsets, embracing open APIs and investing in digital innovation centers, rather than to actually rolling out game-changing new digital solutions to corporate clients.

In addition, we see banks: 

  • Talking about the impact of digital disruption. Some banks are seeking to go a bit further and speak to examples of how digitalization is disrupting their business. For instance, electronic trading platforms that reduce bid-ask spreads, direct listings of equity and debt issuance migrating to electronic platforms, which in turn encroaches on underwriting fees; and digital wallets displacing retail and, increasingly, commercial payments. Identifying these areas of disruption and how they are responding helps buy time.
  • Helping foster digital thinking. Another tact is for banks to present the work they are doing to spark digital thinking and innovation in their own businesses and use this as a path to follow for corporate finance functions to foster digital thinking and innovation within their own organizations. This may be useful, but not nearly as useful as implementing the results from this new thinking to help customers.
  • Creating their own digital/challenger banks. Banks of all sizes have launched or are in the process of launching digital challenger banks to compete with and to an extent disrupt their own legacy business. Often these digital banks are given resources to invest in their own greenfield platforms, utilizing newer digital technology and/or partnering with financial technology companies who have promising tech but lack bank trust, KYC and other regulatory compliance capabilities (or a license to operate in a desired financial market). 

Let’s not forget, though, that it can be very difficult for a bank, or any organization, to disrupt itself. According to Salim Ismail, author of “Exponential Organizations,” a best-selling book that identifies how companies succeed by embracing the disruptive forces of digital technology and grow exponentially, the reason is that every organization has a natural immune system that not only stands in the way of change but actively seeks to destroy the initiatives driving it. Banks are no exception.

For 2020, NeuGroup would like to work with banks who want to restore corporate customers’ confidence in them as a source for innovative solutions, beyond innovative thinking. One way to start the process is to ask each of our bank partners:

  • What is the most innovative solution that you have introduced in the last 12 months or plan to introduce in the next 12 months?
  • What corporate client problem does it solve? Why do you think it is innovative?
  • How did the solution come about, including what clients helped develop and test it?

We encourage our members to ask the partner banks the same.

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No More Libor-SOFR 101, Please! Treasurers Want Implementation Details

Treasurers say they need specifics on market conventions to complete the SOFR risk puzzle.

Many treasury teams don’t want any more bank presentations on Libor-SOFR transition timelines or the basics of risk and fallback language—they want details from bankers, regulators and industry groups on various market conventions.

  • These include how exactly SOFR term rates will be calculated in the cash markets, specifics on any compounding methodology, settlement conventions like lookbacks, and the spread adjustment from Libor to SOFR.
    • “We need details about the market conventions to communicate to the systems folks,” said one treasury practitioner on a NeuGroup members-only conference call this week, echoing other participants. “We want to start getting into the details so we can move forward with transition. But we have a lot of unknowns—I think everyone has these questions.”

Treasurers say they need specifics on market conventions to complete the SOFR risk puzzle.

Many treasury teams don’t want any more bank presentations on Libor-SOFR transition timelines or the basics of risk and fallback language—they want details from bankers, regulators and industry groups on various market conventions.

  • These include how exactly SOFR term rates will be calculated in the cash markets, specifics on any compounding methodology, settlement conventions like lookbacks, and the spread adjustment from Libor to SOFR.
    • “We need details about the market conventions to communicate to the systems folks,” said one treasury practitioner on a NeuGroup members-only conference call this week, echoing other participants. “We want to start getting into the details so we can move forward with transition. But we have a lot of unknowns—I think everyone has these questions.”

Calculation calculus. The answers to these questions will play a critical role, he explained, in pricing of financial instruments or simply knowing standard conventions to settle a transaction, among other issues dependent on the establishment of standards.

Fear of hedge ineffectiveness. Unknowns about spread adjustments, derivative protocols, and market conventions make assessing the impact on hedge effectiveness and the impact on the P&L difficult to assess at this point, one practitioner said. “The risks are known, there’s just not enough information now to quantify those risks,” he added.

Wait and see. Several treasurers on the call said they’re taking a wait-and-see approach to issuing or buying SOFR-denominated debt until there are more details and a track record. One such practitioner who said her company has done no planning for the transition said the company assumes there will eventually be a protocol process that will work.

  • There’s no upside to being a first mover,” one person on the call said. Liquidity is insufficient, he said, to swap to SOFR at an attractive price. Another participant said while his company has been pitched issuing a SOFR bond, it’s not going to do that. “We have been told there would be a market; we’ve chosen to wait that out,” he said.

Pain points. One company has investments in floating-rate debt that will mature after 2021, when using Libor as a reference rate is scheduled to end. “We don’t know the financial impact of the transition,” the treasurer said. “At some point I’m going to have a problem if issuers don’t update their fallback language.” He wants to know what his outside investment managers are doing to manage this concern.

  • This treasurer said he wants to avoid a “one-sided situation” and being “locked into something we don’t agree with.” For those reasons, he wants fallback language that can be amended based on the ultimate details of the Libor-SOFR transition but that doesn’t require redoing the entire document.

No windfalls. In the same vein, other treasurers said the fallback language cannot result in financial windfalls for the banks. “We have started discussions with banking partners,” one said. Another asked if anyone has agreements with their banks on determining economic equivalence between Libor and SOFR. He wants to make sure it “doesn’t create a windfall for either party.”

Discussing disclosure. After discussing the issue with its auditors, one of the companies on the call added a Libor-based risk factor disclosure to its 10-K, modelling it on other companies that had adopted “fairly generic” disclosures, according to one member. One treasurer said his company has been including disclosures in its financial statement about the unknown impact to liquidity from the transition.

Let sleeping dogs lie. On the subject of commercial contracts that include Libor, the consensus on the call was to not open up existing agreements—to let sleeping dogs lie. “Don’t open a Pandora’s box” if Libor is not material to the contract, one treasurer warned. At his company, Libor appears in the late fee part of contracts, which are rarely used and not material, he said.

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When Treasury Needs to Blow Its Own Horn

How metrics help treasury teams market their successes in good times.

Treasury teams get plenty of attention in financially volatile times, but in the good times their more mundane if still critical activities—reducing bank accounts, hedging foreign exchange, etc.—tend to go unnoticed.

  • “If we don’t convey the value treasury provides in good times and in bad, no one else will,” said Ed Scott, senior executive advisor at NeuGroup and former treasurer at Caterpillar, who co-led a recent NeuGroup meeting of assistant treasurers. He added, “The losers are your people who are not getting the credit.” 

How metrics help treasury teams market their successes in good times.

Treasury teams get plenty of attention in financially volatile times, but in the good times their more mundane if still critical activities—reducing bank accounts, hedging foreign exchange, etc.—tend to go unnoticed.

  • “If we don’t convey the value treasury provides in good times and in bad, no one else will,” said Ed Scott, senior executive advisor at NeuGroup and former treasurer at Caterpillar, who co-led a recent NeuGroup meeting of assistant treasurers. He added, “The losers are your people who are not getting the credit.”  

Develop metrics. One peer group member said his treasury department recently completed a treasury transformation, implementing a treasury management system (TMS), rationalizing banks and creating pooling structures. A year ago it began developing metrics to measure progress and determine what had been done correctly or not.

  • It’s all about the data. Pursuing metrics, he said, can’t be successful without “good, solid information.” Define, measure, analyze, improve and control, or DMAIC, is the Six Sigma methodology his team uses. “It’s all about quality and continuous improvement. That’s where the metrics help us go,” he said.

He displayed 14 metrics his team applies today under the categories of cash, currency, credit cards, bank fees and insurance, and he noted several others under consideration in areas such as treasury-staff productivity and financial metrics including hedging performance, FX spreads and cash-flow forecasting accuracy. 

Trends, not points in time. The member said viewing a metric at a point in time provides little value. Instead, analyzing the trend is “where you really start to learn what you’re doing, and it generates lots of questions about the process,” he said. He noted activity-based metrics, such as how many banks the company has or its cash balances, provide important information. The most critical metrics to drive improvement are performance-based ones, such as how many banks and bank accounts have been eliminated, or how much interest was earned.

CFO stories. Mr. Scott noted that reducing the number of bank accounts also cuts fraud, bank fees and labor costs. “So how do you translate those things into the story your CFO wants to hear? What’s the value of doing that?” he asked the group.

The presenting member said treasury must create and monitor meaningful metrics that make a difference in the business and are actually read by the C-Suite:

  • Focus. Report what’s most important.
  • Display. Use effective graphics to deliver the message.
  • Be concise. Deliver a clear, easy-to-understand message.
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Five Key Steps to Supporting Strategic CFOs

Founder’s Edition, by Joseph Neu

What direct reports can do to help a CFO—and themselves—climb the strategic stairs.

We recently facilitated an event for growth-company CFOs where a lot of discussion centered on how the CFO should help get things done by being a strategic partner of the founder or CEO. Playing this role has also become a priority at more mature companies.

  • Bottom line:  If you report to the CFO, you’ll want help make that person a true strategic partner—as you simultaneously become one yourself.

Founder’s Edition, by Joseph Neu

What direct reports can do to help a CFO—and themselves—climb the strategic stairs.

We recently facilitated an event for growth-company CFOs where a lot of discussion centered on how the CFO should help get things done by being a strategic partner of the founder or CEO. Playing this role has also become a priority at more mature companies.

  • Bottom line:  If you report to the CFO, you’ll want help make that person a true strategic partner—as you simultaneously become one yourself.

For starters, focus on these five areas:

  1. Excellence inside and outside the box. The key takeaway is that CFOs have to be good at operating outside of the core finance function, or box, to be successful. That means they must have people they can rely on to handle what’s inside that box. So make sure the finance box functions phenomenally so that you, too, can support the CFO’s work outside it.
     
  2. Hire well and develop talent fast. To increase their span of control and become a strategic partner, CFOs need to hire the right people at the right time for key finance areas. That may always be true, but CFOs tend to struggle when they don’t recruit the right people at the right time for what’s needed next. Smarter hiring will let you take that next step.
    • The need to develop talent fast is in part generational, as millennials expect to progress faster. There’s also a supply-and-demand curve issue skewing finance talent younger. “Senior roles are filled by professionals, on average, six years younger than a decade ago,” a West Coast-based executive recruiter who specializes in finance executives said. A lack of supply for finance professionals with the right experience means that they have the ability to move up quickly. If you don’t promote them, they will leave. Your head of FP&A is someone else’s CFO. Don’t let that happen.
  3. Cultivate a direct line to the board. CFOs need to have a direct relationship with the board, usually with the chair of the audit committee, who can act as a sounding board, coach and networking advisor. Give them what they need to make the most of their board interaction and, as a key direct report, cultivate your own board relationships so that you are in the running as a successor.
    • Hint: The first step might be with a specialty sub-committee or advisory board. Start building your own network of advisors to make you a better and more valuable part of the CFO’s finance team.
       
  4. Set up solutions. A strategic CFO shows that he or she can offer more than information by proposing potential solutions and advancing the team to the 5-yard line, making it easier for the CEO to score the touchdown. Make it easier for the CFO to do this. Don’t be a passive data collector, but instead drive to solutions and, where appropriate, proactively take action.
     
  5. Be proactive about data as an asset. At more companies, data is becoming one of the most valuable assets; or it’s at the top of the list. Even if it’s not yet on the balance sheet, help the CFO to manage data well, leverage it for better decisions, and monetize it both to generate new revenue for the business but also as an asset with which to secure new capital.

Focus on these five things and you’ll likely see the strategic importance of the CFO’s role rise, and with it the strategic value of your role as controller, head of FP&A, vice president of corporate finance/treasurer, or chief audit executive.

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Prepare for a Surging Green Wave of ESG Products

By Joseph Neu

BNP Paribas highlights a veritable tsunami of sustainability-linked finance products.

 
“Treasurers should be preparing for a tsunami of sustainability-linked finance products,” one NeuGroup member treasurer told me recently in response to market events of the last year. To underscore the importance of that notion, Hervé Duteil, chief sustainability officer for BNP Paribas in the Americas, presented his view to NeuGroup’s Tech20 Treasurers’ Peer Group last month. He described three big waves, or “revolutions,” in sustainable finance:

By Joseph Neu

BNP Paribas highlights a veritable tsunami of sustainability-linked finance products.
 

“Treasurers should be preparing for a tsunami of sustainability-linked finance products,” one NeuGroup member treasurer told me recently in response to market events of the last year. To underscore the importance of that notion, Hervé Duteil, chief sustainability officer for BNP Paribas in the Americas, presented his view to NeuGroup’s Tech20 Treasurers’ Peer Group last month. He described three big waves, or “revolutions,” in sustainable finance:

1. Labelling the “use of proceeds.” This wave is most famous for green bonds, and it continues with Apple’s sizable euro-denominated green bond issue last month, but also includes other labelled or “thematic” bonds (or loans) for green, social, sustainable, sustainable development goals (SDG), and now transition financing. The guiding principle is that the use of proceeds from these loans is identified, or labelled, as being used for something specific to sustainability.

2. Linking returns with sustainability performance and impact. This wave’s focus is on sustainability impact and performance (with measurable KPIs) and originally driven by bank lenders.

  • Supply chain finance: This wave likely began in 2016 with sustainable supply chain financing, where the discount factor applied to supplier invoices is linked to sustainability performance verified over time—i.e., do right and you get paid earlier for less of a discount.
  • Loans and credit facilities: The wave has further extended to longer-term financing (mostly revolving credit facilities) in the form of sustainability-linked loans (SLLs), where the interest rate moves up or down in line with the achievement of sustainability performance targets, such as ESG score, greenhouse gas emissions, water intensity, waste intensity or gender ratios.
  • Swaps: The concept of a variable coupon tied to sustainability performance was also embedded in a swap derivative in August and more recently when BNP Paribas structured the first ESG-Linked FX forward swap for Siemens Gamesa.

3. Linking cost of risk (and funding) to sustainability performance and impact. The subtle difference between this and the second wave is that while in the former banks are accepting a lower return for sustainability gains, in the latter it is about investors asking to be compensated for the increased risk—credit or operational—from poor sustainability performance.

The risk-cost argument is likely to have an increasing impact. For one, rating agencies are starting to speak to a more formalized integration of ESG risk factors into credit assessments. This sets up a tension for them that was revealed at our Tech20 Annual Rating Agency Breakfast:

  • To what extent can issuers say that ESG is embedded in their normal rating as opposed to paying for a separate ESG rating? There is not yet a clear answer, other than that ESG factors have always been part of your credit ratings and they will continue to be a factor.

Banks have another risk-cost consideration. While banks have the same inclination as investors to steer the world in a more sustainable direction, they also are looking to strengthen the resilience of their corporate lending model and hedge their loan portfolios against systemic risks such as the emergence of carbon taxes or higher capital adequacy ratios for credit extended to carbon-intensive sectors (see BIS white papers and other central bank research for discussions of putting a higher RWA on credit products for unsustainable or so-called “brown” counterparties).

  • An asymmetric risk profile: This raises the point about the asymmetric nature of sustainability risk, i.e., providers and users of capital will increasingly be penalized from a cost of capital standpoint for brown activities more than they are rewarded for continuing to promote sustainable policies, supporting high ESG scores and acting green.

It will be interesting to see how quickly sustainability-linked finance shifts from rewarding do-gooders to imposing costs on firms that need to transition to become better ESG citizens. Such a move may create something of a catch-22, especially for capital-intensive businesses like oil and gas, mining and heavy industries.

Accordingly, BNP Paribas’ Mr. Duteil sees transition finance as a necessary extension of green finance. It would apply to sectors that (1) are not green today; (2) cannot become green tomorrow; (3) but can and need to get greener (by which we mean less brown) faster; at a pace likely in line with recognized sustainable development scenarios; or at least within the scope of a disclosed comprehensive strategy road map that will get them back in line within an acceptable time frame.

It’s either this or making laggard firms easier targets for disruption by increasing their risk-adjusted cost of capital.

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ION Treasury’s Cross-Product Solutions Strategy Reassures Some TMS Clients

Company is highlighting innovations that work for all seven of ION’s treasury management systems.

In the latest example of its cross-product, multi-brand strategy, this month ION Treasury is launching a cash forecasting solution powered by machine learning for its Reval and ITS treasury clients. ION says the strategy is to build solutions like this once and deploy them to all of its treasury brands, including Wallstreet Suite, Treasura, IT2, Openlink and City Financials.

Cross-product solutions. The cash forecasting solution fits into ION’s road map of introducing innovations across its TMS portfolio, a strategy the company has actively shared with customers at a series of client meetings across the globe this year. The meetings—following a string of acquisitions that initially concerned some clients—are part of the company’s “unification” effort, ION Treasury CEO Rich Grossi said in a recent interview with NeuGroup Insights.

  • “The big message to our customers is our strategy will continue to focus on product innovation within each of our solutions, but we will also provide greater value from the larger portfolio of ION solutions,” Mr. Grossi said. “At our conference, we launched several cross-platform solutions as a proof point of our strategy. Overall, I believe our customers understood the vision and saw great benefit in our new offerings.”

By Antony Michels

Company is highlighting innovations that work for all seven of ION’s treasury management systems.

In the latest example of its cross-product, multi-brand strategy, this month ION Treasury is launching a cash forecasting solution powered by machine learning for its Reval and ITS treasury clients. ION says the strategy is to build solutions like this once and deploy them to all of its treasury brands, including Wallstreet Suite, Treasura, IT2, Openlink and City Financials.

Cross-product solutions. The cash forecasting solution fits into ION’s road map of introducing innovations across its TMS portfolio, a strategy the company has actively shared with customers at a series of client meetings across the globe this year. The meetings—following a string of acquisitions that initially concerned some clients—are part of the company’s “unification” effort, ION Treasury CEO Rich Grossi said in a recent interview with NeuGroup Insights.

  • “The big message to our customers is our strategy will continue to focus on product innovation within each of our solutions, but we will also provide greater value from the larger portfolio of ION solutions,” Mr. Grossi said. “At our conference, we launched several cross-platform solutions as a proof point of our strategy. Overall, I believe our customers understood the vision and saw great benefit in our new offerings.”

Reassuring clients. Anecdotal feedback suggests ION’s message is resonating, at least with some clients. Several NeuGroup members who are users of Reval and other ION systems say they learned important details at the client events about ION’s game plan after a period of relative silence and personnel disruptions as the company acquired and absorbed more TMS providers.

  • One NeuGroup member who did not like the company’s lack of communication following acquisitions spoke positively about the event she attended. “During the user conference, they laid out a well-thought-out strategy that was the first time we’ve ever really heard their strategy, and it all really made sense.”

Investing, not acquiring. “They specifically talked about how they are all done acquiring their core systems,” the member said in explaining her takeaways from the conference. “Their strategy now is to invest across products through ancillary solutions that can lay over these core solutions. Like bank connectivity, bank fee analysis, bank account management, money market fund portals, machine learning, mobile access. So that was encouraging.”

  • In October, ION announced the rollout of a bank fee analysis tool, part of its bank account management solution called IBAM. Looking ahead, Mr. Grossi said the company plans to introduce cross-product solutions involving clients’ connections to banks as well as other tools that make use of artificial intelligence and machine learning. All will ultimately be available to each TMS brand.

Client communication portal. As a final example of the company’s evolution and unification, Mr. Grossi described an online client communication portal for all ION users. “This tool allows clients to connect to receive updates on their software, to view road maps, to share our knowledge with other ION Treasury community users, to get information around the software, to report issues, to get documentation, to do some self-service. A really powerful tool that is exposed now to our larger community and not just a specific customer within.”

The road ahead. More than one NeuGroup member said while they liked what they heard, the jury is still out on the execution of the plan. One such member is eager to hear more about ION’s connectivity solutions. “I really want to see them do something around connectivity. That space is changing so quickly now. There’s definitely more solutions coming in that space through APIs. I’d really like to see that really be an area they invest in. That could be very transformative.”

  • Mr. Grossi says the company is listening closely to what clients want and partnering with them to make those solutions a reality. “We have a really powerful opportunity to advance our solutions. There is work to do, but I think this year was a real inflection point for us as it relates to not only communicating but demonstrating where we want to be from a from a solution provider point of view.”
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Chatham Financial Bolsters Euro Expertise with JCRA Acquisition

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk.

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk at a time when multinationals are mulling euro-centric issues like Brexit and negative rates.

Chatham has mainly grown organically and now has more than 650 employees worldwide, including 90 in its London and Krakow offices. The acquisition of independent risk advisor JCRA Group will increase its European staff by more than 50%, bringing on experts who, similar to Chatham’s staff, specialize in hedging and debt capital markets advice.

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk.

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk at a time when multinationals are mulling euro-centric issues like Brexit and negative rates.

Chatham has mainly grown organically and now has more than 650 employees worldwide, including 90 in its London and Krakow offices. The acquisition of independent risk advisor JCRA Group will increase its European staff by more than 50%, bringing on experts who, similar to Chatham’s staff, specialize in hedging and debt capital markets advice.

“One of Chatham’s purposes is to help make markets transparent, accessible and fair for all market participants. We’re excited about how, together with JCRA, we can have an even greater impact,” said Clark Maxwell, chief executive officer of Chatham.

Chatham pursued the acquisition primarily to increase its presence and breadth of expertise in Europe. At times it has competed with JCRA for business, but the firms tend to service a different corporate client base, according to Amol Dhargalkar, managing director at Chatham.

“The UK will remain one of the largest economies in the world and home to some of the most iconic and significant companies,” Mr. Dhargalkar said.

Sharing wisdom. Chatham has sought to apply the collective wisdom gained by serving thousands of clients in each engagement, enabling better, faster decisions. JCRA holds a similar philosophy with its mostly European client base, a benefit to Chatham’s existing customers dealing with issues impacting UK and eurozone derivative and capital markets.

“The merger will allow us to serve global clients facing challenges related to Europe even better, whether pricing on cross-currency swaps, nuances related to Brexit, negative rates, or accounting standard changes and the differences in applying US and international standards,” Mr. Dhargalkar said.

And technology. JCRA customers will, of course, have access to the collective wisdom of Chatham’s clients. In addition, the company has been one of the few firms providing advisory and operational support, as well as a technology platform supporting the accounting treatment, risk-analysis calculations and valuations for multiple asset classes. “We started our technology journey a long time ago and continually invested in it,” Mr. Dhargalkar said, adding, “Our combined team is excited to be offering the ChathamDirect platform and its capabilities to the European market.”

 

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Virtual Accounts—Not Ready for Prime Time?

 Notes from a discussion on a product that treasurers would like to use—when it’s truly ready.

A presenter from Societe Generale at a recent NeuGroup Global Cash & Banking Group meeting said this about virtual accounts (VAs): “Imagine a world where you can open and close accounts at a moment’s notice, set up zero balance account (ZBA) structures, and not deal with KYC. That’s where banks imagine virtual accounts to end up.” This is the ideal world. That is:

  • They’re like ZBAs in the US with all the reporting behind them, but they’re not real accounts; they exist on a book- basis only and can send money to all your entities.
  • One member has been told VAs will allow them to close approximately 2,000 bank accounts and cut account costs by 40%.
  • Could VAs work better than an in-house bank? Several members are looking at VAs as an alternative to IHBs.

Notes from a discussion on a product that treasurers would like to use—when it’s truly ready.

A presenter from Societe Generale at a recent NeuGroup Global Cash & Banking Group meeting said this about virtual accounts (VAs): “Imagine a world where you can open and close accounts at a moment’s notice, set up zero balance account (ZBA) structures, and not deal with KYC. That’s where banks imagine virtual accounts to end up.” This is the ideal world. That is:

  • They’re like ZBAs in the US with all the reporting behind them, but they’re not real accounts; they exist on a book- basis only and can send money to all your entities.
  • One member has been told VAs will allow them to close approximately 2,000 bank accounts and cut account costs by 40%.
  • Could VAs work better than an in-house bank? Several members are looking at VAs as an alternative to IHBs.

The real world: The first hurdle is payables. Certain banks can open a series of accounts down to four tiers and only take receipts. Banks are still trying to build out the payables side. And from the banks’ point of view, the greatest interest is in using the accounts for notional pooling.

  • One member said there is a reconciliation issue—intercompany loans are not trackable in an automated fashion and only reported on the physical account, a big limitation. Once that’s resolved, they could potentially have an automated loan process. Another member said the biggest implementation hurdle of the VA model is intercompany loans.
  • You can only open VAs in certain countries where the bank allows it, so they may or may not be compatible with your treasury structure.
  • One member has been attempting to get rid of bank accounts and implement POBO and ROBO by leveraging VAs in SAP. However, VAs have proven more painful than the company hoped.
  • SAP is the system of record. Unfortunately, banks in this process like to have their system be the record of who owes whom, “which doesn’t work for our business,” the member said.
  • Another member tried to do virtual accounts in India; the company’s first attempt didn’t go well.

VAs in China

  • One member talked to three banks and sees the potential beauty of using VAs for payments in China: When you pay into China, you must pay a beneficiary and not someone else, so the VA structure would work.
  • The problem: VAs are not allowed in China and are not accepted by the PBOC for payments. Cross-border payments for China are always physical.
  • Banks said they can do cross-currency, but the member would need a pre-agreed FX spread with them (usually not a good one).
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Concerns About the Transition from Libor to SOFR

Treasurers aren’t too happy about the fallback language for the Libor-to-SOFR switch.

Members at a recent NeuGroup meeting used some colorful language in discussing the challenging issue of changing fallback language in contracts that currently use Libor, the benchmark rate that’s scheduled to disappear after 2021.

The wording needs to specify what rate will replace Libor when it’s gone, what triggers the switch, and the pricing spread adjustment between Libor and the successor rate to account for differences between the two benchmarks.
Prepare for battle? One treasurer bemoaned the fact that regulators seem to “hope that people can agree” on the terms of fallback language and warned, “At worst, every contract could be hand-to-hand combat.”

(Editor’s Note–published November 29, 2019)

Treasurers aren’t too happy about the fallback language for the Libor-to-SOFR switch.

Members at a recent NeuGroup meeting used some colorful language in discussing the challenging issue of changing fallback language in contracts that currently use Libor, the benchmark rate that’s scheduled to disappear after 2021.

  • The wording needs to specify what rate will replace Libor when it’s gone, what triggers the switch, and the pricing spread adjustment between Libor and the successor rate to account for differences between the two benchmarks.

Prepare for battle? One treasurer bemoaned the fact that regulators seem to “hope that people can agree” on the terms of fallback language and warned, “At worst, every contract could be hand-to-hand combat.”

  • Behind that potential battle, of course, is the proposed transition in the US from Libor to the secured overnight financing rate (SOFR), a so-called alternative reference rate recommended by the Alternative Reference Rates Committee (ARRC). SOFR is a broad measure of the cost of borrowing cash overnight collateralized by US Treasury securities—the repo market.
  • A report from consultant EY describes issues that could fuel the combat: “The transition to [SOFR] may require renegotiating the spread due to the differences between LIBOR and [SOFR], such as credit and term premiums. If a bank comes up with its own approach for redefining the spread for its variable-rate instruments, the counterparties may find themselves on the losing end of the transition—which could lead to legal challenges and reputation damage.”

No term rates—yet. As an overnight rate, SOFR is not a direct replacement for Libor, which is typically quoted for one-, two-, three-, six- and 12-month terms. And one treasurer at the meeting said the biggest issue in his mind is the lack of SOFR term rates. He said when that issue is resolved, corporates will get serious.

  • But another treasurer noted that the ARRC has warned market participants not to wait for forward-looking term rates to develop before transitioning from Libor to SOFR.

Give your feedback. In early November, ARRC welcomed the release of a proposed publication of SOFR averages and a SOFR index. The New York Fed is requesting public comment on this so-called consultation by Dec. 4.

  • The consultation proposes the daily publication of three backward-looking, compounded averages of SOFR with tenors of 30, 90 and 180 calendar days. It also proposes a daily SOFR index to help calculate term rates over custom time periods. It plans to initiate publication of the averages in the first half of 2020.

SEC disclosure. In a final point about Libor’s demise, one treasurer noted that the Securities and Exchange Commission this summer gave guidance on responding to risks associated with Libor’s end. The statement says, “The risks associated with this discontinuation and transition will be exacerbated if the work necessary to effect an orderly transition to an alternative reference rate is not completed in a timely manner. The Commission staff is actively monitoring the extent to which market participants are identifying and addressing these risks.”

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Cloud Accounting May Require New Controls, Impact Covenants

Treasury executives whose companies are relying more and more on cloud services should confer with their accountants.

Companies are increasingly choosing treasury management systems (TMSs) and other applications via the cloud rather than installing the software in their own data centers. The Financial Accounting Standards Board’s (FASB) new accounting standard aims make the accounting between the two approaches more similar by requiring companies to defer and amortize cloud-related costs rather than expensing them right away, as they do under current accounting.

“For companies that have these [cloud] arrangements, they will have to defer certain of those implementation costs to future periods, and that could impact some covenants, whether free cash flow, EBITDA, and other metrics,” said Sean Torr, managing director of Deloitte Risk and Financial Advisory.

Treasury executives whose companies are relying more and more on cloud services should confer with their accountants about new requirements that potentially could impact loan covenants as well as operational elements tangentially affecting treasury.

Companies are increasingly choosing treasury management systems (TMSs) and other applications via the cloud rather than installing the software in their own data centers. The Financial Accounting Standards Board’s (FASB) new accounting standard aims make the accounting between the two approaches more similar by requiring companies to defer and amortize cloud-related costs rather than expensing them right away, as they do under current accounting.

“For companies that have these [cloud] arrangements, they will have to defer certain of those implementation costs to future periods, and that could impact some covenants, whether free cash flow, EBITDA, and other metrics,” said Sean Torr, managing director of Deloitte Risk and Financial Advisory.

On the plus side, said Chris Chiriatti, audit managing director at Deloitte & Touche, some companies may have avoided software as a service (SaaS) solutions if there was a sizable initial investment because under current accounting they have to expense those costs immediately. “Now they can defer those costs, and it may open up opportunities to use the cloud,” he added.

Challenges. One of the more challenging aspects of addressing the new accounting, according to Mr. Torr, is that management must exercise judgment over the costs to be capitalized. In addition, internal controls will be required to ensure that the capitalized costs are amortized to the P&L over the appropriate term.

“Additional processes and controls may have to be put in place to correctly identify the costs that need to be capitalized under the new standard,” Mr. Chiriatti said. He added that since under existing accounting a lot of those costs were expensed as incurred, companies didn’t need processes to identify and scrutinize their activities.

New controls. Under the new standard, companies entering into cloud contracts frequently and those with decentralized organizational structures should consider whether internal controls are sufficient to handle all cloud arrangements. Additionally, organizations should consider internal controls to ensure management’s judgment is consistently applied and costs are being capitalized appropriately. If those judgments are being made in a decentralized fashion, “then the rigor of the control needs to be greater,” Mr. Torr said, adding that companies will also have to have controls around what information they disclose in financial statement footnotes.

Companies may already have frameworks in place to determine what gets capitalized or expensed if they’ve built solutions on premise. However, for companies that have aggressively pursued cloud solutions, the framework may have gathered dust and become outmoded. “So for those companies there might be additional work because they may not have the processes currently in place that they can leverage,” Mr. Chiriatti said.

Effective date. The accounting goes into effect Jan. 1, 2020, for any company currently deploying software to the cloud, buying cloud services or presently incurring cloud implementation costs. Companies can adopt the standard early for any quarters they have yet to issue financial statements for.

Lining up accounting practices. Mr. Chiriatti noted that from a functional standpoint today there’s little difference between a company using software in the cloud or in its own data center, and that was a major factor prompting the accounting standard-setters to conclude that the deferral model should be the same for both situations.

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The Value of Treasury Finance to Growth Company

Founder’s Edition, by Joseph Neu

When venture capital isn’t enough, you need a treasurer.

Growth companies looking to disrupt industries outside software and pure internet plays (which are already mostly disrupted) can have significant capital needs. This is why traditional venture capital needs to be supplemented with new types of investors and innovative ways to access capital markets. Given the cost of equity, pre-IPO, non-investment grade, un-rated companies needing capital have to be creative about debt financing.

Founder’s Edition, by Joseph Neu

When venture capital isn’t enough, you need a treasurer.

Growth companies looking to disrupt industries outside software and pure internet plays (which are already mostly disrupted) can have significant capital needs. This is why traditional venture capital needs to be supplemented with new types of investors and innovative ways to access capital markets. Given the cost of equity, pre-IPO, non-investment grade, un-rated companies needing capital have to be creative about debt financing.

This puts a new spin on the need for a treasurer with solid capital markets experience to serve as head of corporate finance for a growth-company CFO wearing multiple strategic hats. Growth companies that can’t afford to bring one in-house should have access to one on an on-demand basis.

That capital markets experience should include:

  • Wide-spectrum asset-linked securitization. Disruptive companies often have unique assets and monetization strategies to spin off cash flows that require a visionary mind that can bundle them into financial securities. They need finance talent with experience working on such problems, identifying opportunities and packaging them properly. These asset-linked financings may start with AR factoring, but quickly move to contracted revenue securitization, for example, and even rights to cash-flow streams from future data monetizations.
  • Relationships with debt financing innovators. Treasury’s role as chief bank relationship officer can also be useful, to the extent it includes meaningful connections with incumbent banks and bankers who go against trend to be innovative. Yet it also must include relationships with creative finance minds who’ve left the incumbents to join fintechs, capital advisory firms and investor groups. These relationships often are critical to getting needed funding or funding with a sub-10% cost of capital versus a 40%+ dilutive equity round.
  •  A contingency/opportunistic financing mindset. While most treasury professionals understand that the best time to arrange for financing is when you don’t need it, growth companies need to take this thinking to the extreme. They continually need to look to expand the number of current and contingency funding sources for the capital plan to keep growing as well as funding and liquidity options to tap to survive in a stress scenario or crisis event. 

But the treasurer also needs to be capable of executing the basics:

  • Expand the funding toolkit. “From the earliest stages of a startup, the finance team needs to think about expanding their financing toolkit so that the number of funding sources keeps growing, from 2-3, to 5-6, 6-10, to 16 or more,” says Kurt Zumwalt, former treasurer of Amazon.com and NeuGroup member who’s more recently been advising growth companies.
  • Build a bank group. Start early to build what will become long-term relationships. “As soon as you can build a traditional bank group, so much the better, as bank credit opens avenues to more sources of funding,” notes Neil Schloss, former treasurer of The Ford Motor Company and CFO of Ford Mobility (and NeuGroup member). Plus, more banks are thinking creatively about lending opportunities; so why not target those banks for your facility?
  • Instill a cash culture. Finally, a professional with treasury experience, especially in a high-leverage environment will appreciate the importance of free cash flow and instilling a cash culture throughout the business and finance operations.

NeuGroup can help connect you with one if needed.

Perennial value of free cash flow. Any form of debt financing requires cash flow generation to service it—and it helps if it is cash available after capex and other critical outlays. Equally important, as mindsets shift from revenue and user growth to profitability as drivers of enterprise value, the ability to generate free cash flow does more than improve firm borrowing capacity, it creates a better overall valuation, too.

This renewed focus on cash flow for funding a firm to reach its private value potential with debt and realize its full initial public market value should put treasury finance expertise in demand earlier at growth companies.

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Pushing Responsibility for Risk Gets Results

Sometimes you have to assign risk to reluctant BU leaders to get their attention.

Complying with internal audit’s requests isn’t always front and center in terms of business leader priorities. But prompting them to accept responsibility for identified risks can change that.  

In a lengthy discussion at a recent meeting of NeuGroup’s Internal Auditors’ Peer Group, members discussed the inadequate funding internal audit (IA) often receives to perform its function as well as the sometimes-low priority business leaders can give to complying with IA’s requests. The discussion was kicked off by one member noting that his company’s risk-committee chairman had challenged management to inform the board about the risks they’ll be accepting in the business. 

Sometimes you have to assign risk to reluctant BU leaders to get their attention.

Complying with internal audit’s requests isn’t always front and center in terms of business leader priorities. But prompting them to accept responsibility for identified risks can change that.  

In a lengthy discussion at a recent meeting of NeuGroup’s Internal Auditors’ Peer Group, members discussed the inadequate funding internal audit (IA) often receives to perform its function as well as the sometimes-low priority business leaders can give to complying with IA’s requests. The discussion was kicked off by one member noting that his company’s risk-committee chairman had challenged management to inform the board about the risks they’ll be accepting in the business. 

A plan is hatched. Recognizing an effective approach, the chief information security officer (CISO) sent an email to the COO, who had provided less funding than requested, to tell him he would have to accept responsibility for the ensuing risk. “Within a week the CISO received the funding,” the IAPG member said. 

  • The tactic can be effective across risk functions. The member said the board’s risk-committee chairman took a similar approach, requesting the heads of business units to present the risks they see to the committee. “It’s changing the conversation,” the member said.

Multipurpose use. Another participant noted that the approach can be used for a variety of situations, including IA’s perpetual challenge of seeking final closure from managers on audits that were completed quarters ago. By letting that time pass, the business leader is essentially telling audit that he or she is accepting the risk. 

  • “It boils down to the question: Are you taking an inordinate amount of risk or not, and if you’re accepting that risk, then explain to the risk committee why you’re comfortable with it,” he said. 

Of course, the business leader may respond that the identified issue is no longer a risk or question audit’s expertise on the matter and argue that it doesn’t pose a significant risk. Those are common challenges faced by IA, to which the member said that it is incumbent upon IA to help management understand the priority of issues—whether it’s a “drop everything and fix it now,” or a “do this when you have some time.”

Making it transparent. The first member added that his company typically gives the business the option to say by what date, from a priority standpoint, it will “mitigate” the issue. “This transparency goes up to the audit committee, which can then say, ‘The business says it will take two years,'” and management then has to defend that time frame. 

He added that regulators are raising questions about companies’ vulnerabilities, but corporate culture often passes the buck on taking on who is responsible in correcting or mitigating those weaknesses. 

  • “There needs to be that type of discussion about who has responsibility for these risks, and the audit committee needs to be in the firing line for these types of things,” the member said.  
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Companies’ Buyback Addiction and Other Capital Allocation Insights

Why share repurchases become a drug for companies.

Responding to questions about their capital allocation priorities, assistant treasurers at a recent NeuGroup meeting acknowledged “regurgitating the standard [capital] deployment line,” as one participant put it, after organic growth captured nearly half the votes and M&A ranked second.

Stock buybacks ranked last, even though much of the discussion ended up focusing on that use of capital, which may be a clearer indication of capital priorities. Key insights included:

Why share repurchases become a drug for companies.

Responding to questions about their capital allocation priorities, assistant treasurers at a recent NeuGroup meeting acknowledged “regurgitating the standard [capital] deployment line,” as one participant put it, after organic growth captured nearly half the votes and M&A ranked second.

Stock buybacks ranked last, even though much of the discussion ended up focusing on that use of capital, which may be a clearer indication of capital priorities. Key insights included:

  • Like a drug. Returning capital to shareholders through stock repurchase programs often starts out as a way to dispose of leftover cash in a meaningful way. But soon the programs become a key element to achieve a targeted earnings-per-share (EPS), and then whatever remains becomes the leftover. “It’s like a drug that you can’t get off,” said a participant. “I’ve seen that in company after company.”
  • Analysis of buybacks’ value varies greatly. One member said her team performs extensive analysis on whether share repurchases are providing adequate returns. Another member said that if repurchases are the last choice in capital deployment, then there’s not a lot of value from examining their returns, although some may want to maximize even the returns of leftovers. 
     
  • A signal to investors. For fast-growing companies, noted the assistant treasurer of a major technology firm, announcing that cash will go to repurchases instead of capex tells investors the company no longer has opportunities in which to invest, and its business model is changing.
     
  • Downplaying repurchases. A company whose acquisition opportunities come in “chunks” may see repurchasing shares as a good way to return money to shareholders and even out cash levels. To downplay the importance of buybacks in managing their EPS, they may report earnings before share repurchases. 

    They have that line item because that’s what they want investors to focus on, a member said.

S&P 500 as a benchmark. Several participants acknowledged their companies assume the money they return to shareholders will earn S&P 500-type returns, so if a company’s stock is outperforming the index, it should slow repurchases, and vice versa. One member prompted peals of laughter by asking whether anybody had ever heard their CFO say the company’s current share price made repurchases too expensive to continue.

Accountability for allocation decisions? Sort of. Responses to a survey question asking whether there is accountability for ensuring that capital allocations generate anticipated returns were 53% affirmative and 35% saying no.

But further discussion revealed that for most members, the answer rests somewhere in between. Their companies may have rigorous accountability policies, but given the long-term nature of significant investments, the relevant decision-makers often have left the company or are in very different positions. Monitoring too closely for accountability can stifle innovation.

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Shining a Light on Proxy Advisors as Activist Allies

Founder’s Edition, by Joseph Neu

Investors and corporates need to know about conflicts of interest when proxy advisory firms team up with activist investors against management. 

The former CFO of a company that successfully defended against an attack by an activist investor shared some key lessons learned from the experience at a NeuGroup meeting last week. Here’s a big one:

  • Management at even the most shareholder-friendly corporations must court passive investors to counter the inherent power of proxy advisors that support the activists. 

Founder’s Edition, by Joseph Neu

Investors and corporates need to know about conflicts of interest when proxy advisory firms team up with activist investors against management. 

The former CFO of a company that successfully defended against an attack by an activist investor shared some key lessons learned from the experience at a NeuGroup meeting last week. Here’s a big one:

  • Management at even the most shareholder-friendly corporations must court passive investors to counter the inherent power of proxy advisors that support the activists. 

A powerful duopoly. An editorial in the Wall Street Journal on Monday highlighted the power of the proxy/corporate governance duopoly. It reveals:

  • In­sti­tu­tional Share­holder Ser­vices and Glass Lewis con­trol 97% of the proxy ad­vi­sory mar­ket.
  • ISS pro­vides rec­om­men­da­tions to 2,239 clients, in­clud­ing 189 pen­sion plans, and ex­e­cutes 10.2 mil­lion bal­lots an­nu­ally on their be­half.
  • Glass Lewis, which is owned by the On­tario Teach­ers’ Pen­sion Plan and Al­berta In­vest­ment Man­age­ment Corp., has more than 1,300 clients that man­age more than $35 tril­lion in as­sets.

More: “Stud­ies have found that the two firms can swing 20% of votes in proxy elec­tions. An Amer­i­can Coun­cil for Cap­i­tal For­ma­tion re­view last year found that 175 as­set man­agers with $5 tril­lion of as­sets voted with ISS rec­ommen­da­tions 95% of the time. Ac­tivist hedge-fund in­vestors of­ten en­list the proxy firms to shake up man­age­ment, for bet­ter or worse.”

SEC scrutiny. This power has invited scrutiny from regulators. On November 5, the SEC voted to propose amendments to its rules governing proxy solicitations “to enhance the quality of the disclosure about material conflicts of interest that proxy voting advice businesses provide their clients. The proposal would also provide an opportunity for a period of review and feedback through which companies and other soliciting parties would be able to identify errors in the proxy voting advice.”

Allegations made by companies include:

  • Disparity in governance ratings given to firms that pay ISS or Glass Lewis for consulting vs. those that do not.
  • Conflicts of interest when proxy advisors are paid by activist investors or other institutional investors with an agenda.
  • Lack of adequate means to dispute proxy advisor recommendations and even to correct factual errors.
  • Poor transparency on shareholder vote counts, including point-in-time ownership and associated voting rights.

Of course, corporate managements only have themselves to blame if they don’t hold themselves accountable to governance standards—and increasingly to environmental and social standards for corporate behavior (E, S and G).

  • Still, companies that do all they can to be good corporate citizens and look out for shareholders (and all stakeholders) should expect a fair hearing.

Don’t wait. The best advice is not to wait for a proxy battle to tell your positive story. “We had heard that good investor relations was to be proactive to passive shareholders,” the former CFO speaking to our members said. Not only IR, but the C-suite needs to meet regularly with investors to share the company’s business strategy along with its ESG story. This is the best way to counter the proxy duopoly.

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Bank Account Rationalization: Taking a Page from Marie Kondo

One member’s approach to reviewing accounts, purging the inessential and optimizing.

A photo of a smiling Marie Kondo, author of The Life-Changing Magic of Tidying Up, helped set a positive tone for one member’s presentation on the thorny task of bank account rationalization. 

  • The treasury operations team’s embrace of purging clutter and keeping only what’s essential was fueled less by the desire to spark joy than the imminent, mundane chore of moving offices. That meant buckling down and weeding through each and every physical folder for every single bank account. 

One member’s approach to reviewing accounts, purging the inessential and optimizing.

A photo of a smiling Marie Kondo, author of The Life-Changing Magic of Tidying Up, helped set a positive tone for one member’s presentation on the thorny task of bank account rationalization. 

  • The treasury operations team’s embrace of purging clutter and keeping only what’s essential was fueled less by the desire to spark joy than the imminent, mundane chore of moving offices. That meant buckling down and weeding through each and every physical folder for every single bank account. 

Inventory overload. Taking inventory of bank accounts is an onerous task to say the least. In a quick poll of meeting attendees, about 95% of members have over 500 accounts, and only a handful have a formal bank account rationalization process. It is important to remember that a recently closed account can be just as important as an open one for audit and FBAR purposes.

  • Inventory checklists should evaluate the accounts’ ties to the overarching bank relationship, products and services, portal(s), and business/accounting purpose, usage and signers. 
     
  • To keep or not to keep, that is the question. With all the aforementioned information the question of “what do we do?” becomes easier to answer. The inventory process helps you discover accounts you may have overlooked and products and services you don’t use or aren’t using enough. And that drives decisions to help you achieve account optimization, improving efficiency.  

Leaner and nimbler. Starting with large amounts of bank account paperwork, the presenting company digitized bank account files for all open accounts and two years of previously closed accounts. Then it established an ongoing plan for maintenance as well as one designed for facing M&A integration projects. While recognizing that “no two integrations will be the same,” the focus is on keeping bank relationships but consolidating accounts wherever possible. 

  Pros:

  • Reduce administrative work, KYC, audit requests, online administration, account maintenance
  • Increase liquidity: concentrate cash balance, enhance and maximize yield on investable cash   

   Cons:

  • Time consuming up-front work
  •  Easy to accidentally overlook some bank products and services (example: letters of credit)

Cast a wide net and target end-goals. Involving all internal stakeholders such as tax, legal and payment operations allowed for transparency, educated account closures and keeping purpose-specific open accounts. The presenter advised other members that when tackling account rationalization in an M&A integration, the game plan should be established and clearly communicated, while being sensitive to human relations (i.e.: what is happening on the other side of the integration equation). 

Don’t forget where you came from. Unfortunately, bank account rationalization isn’t a one-and-done project. The presenter stressed that establishing timelines, setting milestone objectives and scheduling ongoing maintenance of the process is necessary for continued success. 

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Flying High with a Rare Bird: A Decentralized Treasury

The treasurer of a decentralized team says he’s more influencer than boss. And it works—for him. 

The corporate treasurer of a fast-growing, global holding company that owns multiple brands explained at a recent NeuGroup meeting that each brand has its own treasury team but that treasurers at the brands report to local CFOs—none of them have a formal, direct reporting line to him.

The treasurer of a decentralized team says he’s more influencer than boss. And it works—for him. 

The corporate treasurer of a fast-growing, global holding company that owns multiple brands explained at a recent NeuGroup meeting that each brand has its own treasury team but that treasurers at the brands report to local CFOs—none of them have a formal, direct reporting line to him.

  • Why. The member inherited this decentralized structure, which corresponds to a business model where each brand manages itself and the holding company, following an acquisition, strives to retain the company’s founding members and corporate culture. 
     
  • A rare bird. This structure is relatively rare among multinationals, stood in contrast to the other members at the meeting who have centralized treasuries, and struck some of them as far less than ideal.

What he does. The member sets goals for treasury, controls the banking group (“Strategy gets set at the top of the house with me,” he said.) and establishes risk tolerances for this high-growth company.

Why it works. The member, who has decades of experience and has worked at world-class companies with centralized treasury models where the treasurer is boss, says in his current role the word that best describes him may be influencer. He says this model works not only because of his skills and background but because of his ability to listen. 

  • “I have been successful in doing this using strong influencing skills,” he said. “But another treasurer who needs formalized reporting lines would not find the same success.”
     
  • He works closely with the treasury teams at each brand and admits he confronts pushback at times and sometimes loses when pursuing an initiative. 

The bottom line. The treasurer emphasizes that ultimately, it’s not the structure or process that determines success—it’s having the right the people in leadership positions. That applies to him and all the people he works with in treasury. 

  • “I do not advocate for centralized or decentralized,” the treasurer said. “Instead I have tried to adapt and maximize the effectiveness of our strategy based on the company’s overall structure, which is decentralized.”
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We’ll Get to Libor Later

Two surveys say nonfinancial firms are falling behind in Libor transition efforts.

Nonfinancial companies are taking a passive approach to prepping for the transition away from Libor, relying heavily on their banks and other financial firms to carry most of the burden. According to recent surveys, however, the financial community is lagging.

In its recently published “Liboration: A practical way to thrive in transition uncertainty,” Accenture spells out financial services firms’ lackadaisical efforts toward the transition, even though regulators have reinforced that they will no longer support the benchmark past 2021.

By John Hintze

Two surveys say nonfinancial firms are falling behind in Libor transition efforts.

Nonfinancial companies are taking a passive approach to prepping for the transition away from Libor, relying heavily on their banks and other financial firms to carry most of the burden. According to recent surveys, however, the financial community is lagging.

In its recently published “Liboration: A practical way to thrive in transition uncertainty,” Accenture spells out financial services firms’ lackadaisical efforts toward the transition, even though regulators have reinforced that they will no longer support the benchmark past 2021.

A survey of firms in the private equity, real estate and infrastructure sectors also found laggards. Conducted by JCRA, an independent financial risk advisory firm, and law firm Norton Rose Fulbright, it found that just 11% of derivative users in those sectors believe their Libor-referencing contracts contain provisions appropriate for the benchmark’s permanent discontinuation.

Furthermore, 38% of respondents described contract renegotiations to accommodate Libor’s discontinuation as “not having started,” while 26% said they were a work in progress, and 23% had yet to identify which contracts require amending. No respondents said they had completed renegotiations.

The seemingly less than urgent approach is of critical importance to corporates, which Accenture concludes are relying heavily on their financial services firms to aid their own transitions. Its survey describes numerous areas in which banks are lagging that corporate customers may want to inquire about:

  • Transition plans. More than 80% of survey respondents reported having a formal transition plan, but only 59% said they had a unified and consistent transition and remediation approach. Only a quarter of respondents plan to allocate funds to product design over the next three years, and just one in seven plans to invest in technology and one in ten in legal remediation, areas directly impacting customers and which Accenture calls critical to an effective transition. As far as corporates relying on their banks to hold their hands through the transition, the survey found less than a tenth of respondents expect to fund client outreach activities.
  • Preparedness. While 84% of respondents reported having a formal transition plan in place, only a third said those plans had been in place for more than a year. The survey found only 18% of respondents describing their plans as mature. In addition, “lower-level planning of granular detail and transition activities appear to have only begun in earnest in 2019,” despite regulators’ warnings since the summer of 2018.
  • Talent and capabilities. Only 53% of survey respondents reported having the necessary talent or capabilities to complete their transition by the end of 2021, the point after which Libor is likely to become “unrepresentative” of bank borrowing costs. And only 47% claim to have sufficient funding to support their Libor initiatives.
  • Pertinent to corporates. Accenture notes that “Banks and financial firms should also expect increased demand for information as the transition progresses and be prepared to provide updates on stress tests and risk forecasts as well as evidence of the changes put in place across the business and technology area to facilitate the transition.”
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Prepping Pensions for Potentially Perilous Periods

Managers of frozen or closed pension funds need to be prepared for transitional periods. 

Managers of pension funds on a decumulation journey (with more cash flows going out of the plan than coming in) need to be wary of the different dynamics in this stage of the savings cycle. Investors are more vulnerable to shocks and more susceptible to forced selling, all with a greater time dependency on realizing returns.

This is particularly true during periods of major, rapid, institutional transitions that Abdallah Nauphal, CEO of Insight Investment, calls “interregnums,” which can create increased volatility in asset markets. Mr. Nauphal shared his views at our Pension and Benefit Roundtable, sponsored by BNY Mellon, of which Insight Investment is a part.

What to do?

By Joseph Neu

Managers of frozen or closed pension funds need to be prepared for transitional periods. 

Managers of pension funds on a decumulation journey (with more cash flows going out of the plan than coming in) need to be wary of the different dynamics in this stage of the savings cycle. Investors are more vulnerable to shocks and more susceptible to forced selling, all with a greater time dependency on realizing returns.

This is particularly true during periods of major, rapid, institutional transitions that Abdallah Nauphal, CEO of Insight Investment, calls “interregnums,” which can create increased volatility in asset markets. Mr. Nauphal shared his views at our Pension and Benefit Roundtable, sponsored by BNY Mellon, of which Insight Investment is a part.

What to do? Part of the answer for investors is to focus their investment strategies on achieving specific outcomes rather than focusing on short-term volatility. This can only be done if pensions have a strategy in place to manage their cash flows ahead of time.

Pension plan solutions need to be tailored to individual plans’ situations. For example:

  • Add certainty. The better funded a given plan is, the easier it may be to design a strategy to maximize the certainty of meeting its objectives, e.g., minimizing funded status volatility.
  • Add resiliency. For plans that are significantly underfunded, it also becomes important to find ways to increase the resilience of the overall portfolio construction/asset allocation.

This is consistent with what I wrote at the start of the year in that now is the time to think about resiliency, or what Nassim Taleb calls being anti-fragile.

In case you’re curious, the road map Mr. Nauphal laid out for the current interregnum would look like this (see graphic on page 1):

  • The key developed economies move from exploring the limits of monetary policy to pursuing a monetized fiscal expansion: “Governments are prepared like never before to intervene in our economies,” he noted, but this activism may not stave off a crisis.
  • Monetizing the fiscal expansion leads to inflation.
  • Inflationary conditions lead to a crisis from which a new order emerges.

So, let’s hope the new order that emerges is an extremely prosperous one—e.g., an Industrial Revolution 4.0 that’s fueled by smart machines and AI—and the crisis that it begets is not too painful. Meanwhile, more of us will want to get on the glide path that guides us through the current interregnum.

Negative-Rate Concerns Spread to Pension Funds

Although the likelihood of negative interest rates in the US still seems remote, in Europe they’ve been a reality for several years, and pension funds are now grappling with what that means.

In another discussion at the Pension and Benefits Roundtable, the head of pension investments at a multinational corporation (MNC) with several European funds noted it will be the first time in his company’s history that it will have to use negative interest rates to value liabilities, specifically in a Swiss fund. He noted looking at IFRS accounting rules that apply to European companies and concluding a negative number must be used in those calculations, “even though it doesn’t sound right. You promised a $100 pension to someone, and you knew it wouldn’t be more than that, but today you have to say that my liability is $105.”

Falling rates are no fun either. Other participants noted that falling rates, even if not yet negative, are also problematic given the growing pressure they put on banks, and ultimately their services. One noted the impact of falling rates on her company’s P&L and said her team is now concentrating on manager searches and debating the value of passive versus active managers. “Do we think active management would provide us with a bit more of a defensive posture, in our equity lineup?” she said.

Cutting costs. The topic of centralizing pension plans across European countries arose during the roundtable, to enable pensions facing the challenge of negative rates to cut costs while potentially smoothing out imbalances when some of an MNC’s funds across different countries are well funded and others in the red. A participant noted that Belgian law permits pooling pension-fund assets, and his team has considered the move with respect to funds in smaller European countries—Belgium, Austria, etc.—but the complexity has hindered progress. “We don’t see blending Germany and the UK, Switzerland and the UK, or those in other large countries,” he said.

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Cyber Risk Committees and Related Governance Tips

Founder’s Edition, by Joseph Neu

Cybersecurity is now a board-level risk and that might justify a board-level cyber risk committee, NeuGroup members said during our recent Internal Auditors’ Peer Group meeting. 

In a discussion about cyber risk and a tangential conversation on separate audit and risk committees, chief audit executive members from tech and other IP-intensive firms highlighted the issue of cybersecurity expertise and experience at the board level. Directors on most audit or risk committees don’t necessarily have this specialty expertise in their backgrounds.

Founder’s Edition, by Joseph Neu

Cybersecurity is now a board-level risk and that might justify a board-level cyber risk committee, NeuGroup members said during our recent Internal Auditors’ Peer Group meeting. 

In a discussion about cyber risk and a tangential conversation on separate audit and risk committees, chief audit executive members from tech and other IP-intensive firms highlighted the issue of cybersecurity expertise and experience at the board level. Directors on most audit or risk committees don’t necessarily have this specialty expertise in their backgrounds.

  • Don’t wait for the mandate. While other specialty areas of expertise, e.g., finance, have been mandated, cyber risk is too important to leave off the list of desired qualifications for board of director recruiting.
  • A dedicated cyber risk committee would help with recruiting. Forming a separate committee for cyber risk would help focus minds on recruiting such directors. It would also elevate the CISO or Infosec head with a board committefe reporting line.

Separating the chief information security officer (CISO) or information security reporting lines from the chief technology officer or IT function was also a takeaway for several members. The reason: 

  • It’s too easy for the technology group to allocate budget away from cybersecurity-related projects to favor shiny-object, customer-facing or revenue-generating technology spend. 

Some firms thus have CISO/InfoSec reporting into the CFO if there is no CRO instead, but: 

  • A CISO/InfoSec reporting line to the chair of the board’s cyber risk committee would give them that much more autonomy. 

If you’re looking for a driver to push this initiative, look no further than the SEC’s  Commission Statement and Guidance on Public Company Cybersecurity Disclosures, which came out in February 2018. In the wake of Equifax and other breaches, the SEC had felt an increasing need to issue guidance on disclosures because senior executives were found to have sold company shares during the period when they were aware of an incident, but before it had been publicly disclosed.

Generally, once specific risk factors are called out for disclosure the need for governance of them also rises. The SEC guidance includes the following on board risk oversight:

  • Current SEC regulations “require a company to disclose the extent of its board of directors’ role in the risk oversight of the company, such as how the board administers its oversight function and the effect this has on the board’s leadership structure.” How does it look if the board doesn’t have cyber in one of its committee’s mandates?
  • Such disclosures “should provide important information to investors about how a company perceives the role of its board and the relationship between the board and senior management in managing the material risks facing the company.” This is where the reporting line to cyber risk head comes in.
  • “To the extent cybersecurity risks are material to a company’s business, we believe this discussion should include the nature of the board’s role in overseeing the management of that risk.” Yes, cyber risk counts as important!
  • “In addition, we believe disclosures regarding a company’s cybersecurity risk management program and how the board of directors engages with management on cybersecurity issues allow investors to assess how a board of directors is discharging its risk oversight responsibility in this increasingly important area.” Outlining the program in SEC reporting is one thing, but investors and regulators will also naturally look into the qualifications of the directors charged with cyber risk oversight.

Have you done your due diligence on the need for a cyber risk committee? Hint: Consider rolling privacy into their mandate, too.

Rolling in the Deep (Data)

As a related issue, data and data privacy are other areas that boards are going to need to have some knowledge of, particularly when it comes to requirements for last year’s general data protection regulation – GDPR – and now California’s similar California Consumer Privacy Act (CCPA).

Data collection, storage and management, as just about every corporation is learning (in some cases, the hard way), is critical to success. Like blood it needs to course through the company’s veins in order to stay competitive. However, if there’s a breach and that data starts pouring into cyberspace, it could cost the company dearly. That’s why governments are stepping in.

Both GDPR and CCPA are regulations that require companies to get a handle on their sprawling data troves, make sure they are secure and be ready when someone – the “data subject” – wants their personal data purged from wherever the company holds that data.

As IAPG members learned at their recent meeting, complying with the data subject part isn’t that easy.

  • What is personal data? What is personally identifiable information? GDPR thinks of them as two distinct things – but both critically important. And who will manage it all? The DPO of course. If your company doesn’t have a data privacy officer already, then it should be looking for one posthaste.  

But even with the best data organizing efforts, total control is elusive. As a presenter at the IAPG meeting pointed out, “100% GDPR compliance is an illusion.”

  • That’s because there are “many systems, files, hard copies containing personal data. Think about the human resources archives, systems backup and archives, one-time used Excel work files, etc. There is no company that has a complete and accurate inventory of personal data,” he said.

Nonetheless, companies should be able to show that they are making a solid effort. 

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Containing the Cost of Hedging

Zeroing in on the cost of carry can help companies get a handle on hedge costs.

Volatile markets require an effective hedge program while ensuring the cost is reasonable for the level of risk reduction. At a recent FX Managers’ Peer Group meeting, in a session co-led by a member and a sponsor’s risk advisory team, the group pondered ways to contain the cost of hedging and the trade-offs.

Zeroing in on the cost of carry can help companies get a handle on hedge costs.

Volatile markets require an effective hedge program while ensuring the cost is reasonable for the level of risk reduction. At a recent FX Managers’ Peer Group meeting, in a session co-led by a member and a sponsor’s risk advisory team, the group pondered ways to contain the cost of hedging and the trade-offs.

A critical takeaway was that one of the first things practitioners must do is to consider the cost of carry. This is determined by the interest differential between the two currencies in the hedge (this, rather than basis spread, is the main driver of carry cost). In the currency market environment at the time of the meeting (September), that would indicate favorable hedge costs for long G10 exposures (ability to lock in a hedge gain with a forward contract) while hedging emerging markets (EM) currencies the same way would result in a loss. For companies with primarily short FX exposures, such as the presenting FX member, the scenario would be the opposite.

What’s your hedge “value for money?” Another way to view cost is using the ratio of dividing the carry gain or loss by the implied volatility for the considered hedge period. The higher that ratio is, themore value for money it is to hedge that currency risk. This ratio varies over time and can often tip from favorable to unfavorable, especially in EM currencies. And, the more volatile the currency, the more the timing of the hedge transaction matters.

What about correlation? Members were shown how the carry cost of developed markets (DM) currencies were strongly correlated to 3-month USD Libor where carry cost of EMs were not. Not only that, but because short-term rates are linked to economic cycles and central bank policies, forecasted rates changes are, more often than not, better indicators than forward curves. As one banker noted: “It’s good to look at forecasts, because banks are not always wrong.”

What’s the implication for corporate hedging? Because of correlation effects, offsetting exposures generally benefits those with both long and short exposures. For one member who revealed primarily short FX exposures, it pays to consider groups of currencies more, in this case DM/G10 vs. EMs. In periods like those of the last 12 months, when EM currencies have been negatively correlated vs. the USD, and the size of the exposure relative to the G10s is lower, there is a case for little to no hedging, unless a gain can be locked in from the get-go. For more material exposures (G10 for this company) where the correlations are also higher, a more careful approach is needed when the FX team is also mandated to contain the cost of hedging.

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Fishing for Clarity: Murky Bank Fees and Whether to Pay to Reduce Them

Why paying for performance when trying to cut bank fees may not hold water.

The pain point of bank fees is not significant enough to justify paying vendors who promise to analyze and reduce them on a performance basis. This was the consensus of NeuGroup members discussing bank fee management—one of their top priorities—at a recent meeting. 

Why paying for performance when trying to cut bank fees may not hold water.

The pain point of bank fees is not significant enough to justify paying vendors who promise to analyze and reduce them on a performance basis. This was the consensus of NeuGroup members discussing bank fee management—one of their top priorities—at a recent meeting. 

While in theory it might make sense to pay a contingency fee based on how much a vendor saves a company, treasury operations managers are understandably reluctant. 

  • “We pay our banks a lot in fees, so paying a vendor a percentage of savings would amount to a significant payout,” one NeuGroup member said recently. 
     
  • Charging 30% of the savings as payment—what one vendor making the rounds has been quoting—is too high.

On a pure cash outflow basis, treasury has some idea of what it’s paying banks, but the full picture is murky since much of what banks earn off each client in the transaction banking realm is embedded in foreign exchange and interest-rate spreads. Indeed, sometimes an effort to reduce visible fees can lead to uneconomic decisions.

  • If your bank fee analysis vendor has an incentive to reduce fees, they may do so at the cost of better interest or FX rates, earnings credit rates (ECRs), or may push other economically irrational decisions.

Further, treasury needs to step back and consider how much it is paying in fees versus the level of bank service it is receiving, including the credit commitment. In other words, it needs to look at the total wallet. Here are three points to consider:

  • Is this worthwhile? One banker with experience in transaction banking at a global leader told me he thinks that the relentless focus on bank fees is akin to being obsessed with finding all the coins in your couch cushions.

    “Competition among banks has driven fees down, so it should not be as big a concern,” he said. NeuGroup members shot down this notion, however.
     
  • More clarity needed. The wallet considerations with bank fees for transaction banking services need to be clearer and banks do themselves a disservice by failing to adopt global standards to make them more transparent and comparable.
     
  • Rate environment is conducive to it. Now is the time to get a handle on fees. With persistent negative and lower interest, flatter yield curves, across much of the major developed economies, transaction banking is becoming more reliant on fees to sustain their businesses.   

The bottom line.  To fix the pain point of bank fees, banks and bank fee solution providers needs to:

  1. Establish more clarity on what bank fees represent, and the market price for them.
     
  2. Put them in the context of overall wallet management so treasurers can assess if the upcharge to pay for other services that are not market priced, like credit commitments, is acceptable.

This is the game being played: Banks deliver a range of services for which their corporate customers pay them X, aka the wallet; the allocation of that wallet to various services and fees is used to justify a credit commitment that is otherwise not fully paid for.

  • To pay a bank fee analysis vendor on contingency to reduce bank fees may be a fool’s errand unless the contingency fee is reflected in the total wallet picture. 
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Rating and Ranking External Investment Managers

Key elements for designing a scorecard to evaluate external manager performance.

Members at a recent meeting of cash investment managers discussed effective external manager evaluations, including what belongs in scorecards. 

Big picture. The presenting member runs the credit portion of her company’s portfolio and considers various criteria to score managers. She is increasingly using more qualitative metrics in addition to portfolio returns. Her team’s key elements to evaluate managers are:

  1. Investment performance 
  2. Market and credit insight 
  3. Risk management and compliance 
  4. Client service and reporting
  5. Team stability; diversity and inclusion

Key elements for designing a scorecard to evaluate external manager performance.

Members at a recent meeting of cash investment managers discussed effective external manager evaluations, including what belongs in scorecards. 

Big picture. The presenting member runs the credit portion of her company’s portfolio and considers various criteria to score managers. She is increasingly using more qualitative metrics in addition to portfolio returns. Her team’s key elements to evaluate managers are:

  1. Investment performance 
  2. Market and credit insight 
  3. Risk management and compliance 
  4. Client service and reporting
  5. Team stability; diversity and inclusion

Evaluating the value proposition. The company’s deemphasis on performance and its decision to place greater value on the services managers provide involves evaluating:

  • Market and credit insight by way of macroeconomic interpretations, asset allocation recommendations and credit research expertise to provide valuable aid in investment decisions.
     
  • Risk management and compliance support via timely and accurate reporting to check off all regulatory and compliance boxes.
     
  • The responsiveness and reliability of client service and delivery on special requests.
     
  • The team itself should have a key contact in place, low turnover and diversity throughout to maximize the relationship. 

Dynamic design. Using a weighted average scoring system, the scorecard evaluates portfolio performance quantitatively by comparing a manager’s returns to market benchmarks and peers. All other categories involve subjective ratings of qualitative measures.  

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Safety First: Investment Managers Reduce Risk, Shorten Duration

Cash investment managers are shying away from risk and heading toward safety and liquidity.   

The vast majority of members at recent NeuGroup meeting of cash investment managers expressed very little desire to increase the risk or duration of their portfolios to boost yield. Indeed, their priorities—in order—may be best expressed as SLY: safety, liquidity, yield. 

  • The inverted curve. One key factor in this low-risk stance was the inverted or flat shape of the yield curve at the time of the meeting. “We’ve liquidated all long-term investments, all treasuries and corporate bonds, because of the curve,” one member said. 

Cash investment managers are shying away from risk and heading toward safety and liquidity.   

The vast majority of members at recent NeuGroup meeting of cash investment managers expressed very little desire to increase the risk or duration of their portfolios to boost yield. Indeed, their priorities—in order—may be best expressed as SLY: safety, liquidity, yield. 

  • The inverted curve. One key factor in this low-risk stance was the inverted or flat shape of the yield curve at the time of the meeting. “We’ve liquidated all long-term investments, all treasuries and corporate bonds, because of the curve,” one member said. 

Changing stripes. Another member whose company once owned emerging market debt has derisked and the portfolio is now “very conservatively managed,” she said. It’s largely allocated to bank deposits, government and prime money market funds, commercial paper (CP), some asset-backed CP, mortgage-backed securities and munis. All of it is fairly short duration. 

Investment-grade reality check. Before the meeting, one member wrote:

  • “Our major point of interest related to the balance sheet is liquidity. There have a been a number of research pieces floating around suggesting that many corporate BBB bonds are actually BB. During a downturn, those bonds will trade with reduced liquidity. We’re scrubbing our portfolio to identify any concerns of that nature.”

Exceptions to the rule. A few members are willing to venture out the risk curve a bit and invest in high yield corporate debt. But with plenty of due diligence: One member in this camp said that his group “spends a lot of time on credit,” allocating the portfolio to the right geographies and striving to “optimize relative to risk and liquidity.”

The pendulum swing. The only constant, of course, is change. So don’t be surprised if some cash investment managers are singing a slightly different tune at the group’s next meeting about their appetite for risk.  

  • One of the members said her team is already asking, “Did we get too conservative?” At some point in the future, she said, there is a “high likelihood we’ll take more risk.”
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The Art of Rising in Finance: A CFO’s Advice on Job Selection

One woman’s criteria for choosing new jobs that lead to higher rungs on the professional ladder.

At the latest Women in NeuGroup* event, held at Expedia in Seattle, Jenny Ceran, CFO of Smartsheet, suggested that women moving up the ladder should take chances—and take a job even if it means most of it would be learning. 

One woman’s criteria for choosing new jobs that lead to higher rungs on the professional ladder.

At the latest Women in NeuGroup* event, held at Expedia in Seattle, Jenny Ceran, CFO of Smartsheet, suggested that women moving up the ladder should take chances—and take a job even if it means most of it would be learning. 

Her path to CFO. After working in finance at Sara Lee and Cisco, Ms. Ceran won the treasurer’s job at eBay at age 39 ¾., achieving her goal of becoming treasurer by the time she turned 40. Also cool: She was a member of NeuGroup’s Tech20 Treasurers’ Peer Group.

  • After nine years in the role, she was ready for a new job at the company. She set her sights on investor relations, a learn-on-the-job opportunity for which she ended up earning accolades but was criticized for not having sharp enough elbows.
     
  • Not only that, in order to do investor relations, she also had to take on FP&A, a combination that can be too much for one person with a small team at a multi-billion dollar organization.

After eBay, she served as treasurer and head of IR at Box, before becoming CFO for the first time, at a publicly-traded digital coupon company. She took the CFO job at Smartsheet three years ago.

Shoulda done it earlier. The CFO job is a big one that requires a lot of energy. If she had to do it over again, Ms. Ceran would have gunned for the CFO job earlier in her career when she had more of it. Lesson: Don’t wait.

Picking the next job: Follow your heart. Ms. Ceran advises careful consideration of the following five criteria whenever faced with an opportunity for a new role:

  1. Find an industry that excites you. Work in industries that are compelling. The internet was a big draw for Ms. Ceran at the time internet-enabled businesses burst onto the scene, and that brought her to Cisco.
     
  2. What work will I be doing? Ask yourself, “Will I learn something new or just reapply skills I’ve already developed?”
     
  3. Who’s the boss? It’s important that you have chemistry with your boss. Remember: people don’t leave companies, they leave bosses.
     
  4. Is the corporate culture a fit? Does it require you to behave in ways that go against your character? If you speak up about unacceptable behavior, how will that be received? Women in particular need to look out for signs of a “bro culture.”
     
  5. The Money: Last and always last. Take the job if it fits your criteria, even if it’s less money. “I’ve taken jobs that pay less because they fit the above four so well,” Ms. Ceran said. “I ended up learning so much and it enabled me to pivot to greater things over the long-term.”

*The next WiNG event is in New York City in spring 2020. To receive an invitation, please email mkmoore@neugroup.com.

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Another Reason to Keep on Top of Bank Fees

Only treasury is positioned to fully evaluate bank fees, so ensure your team does not provide reasons for other groups like procurement to intervene.

As organizations look to reduce spending on vendors and drive organizational savings, it is critical that treasury provide proper bank fee analysis to prevent other internal functions from viewing bank spend as a lever to hit savings goals. That key takeaway emerged at a recent NeuGroup meeting of cash managers.

Only treasury is positioned to fully evaluate bank fees, so ensure your team does not provide reasons for other groups like procurement to intervene.

As organizations look to reduce spending on vendors and drive organizational savings, it is critical that treasury provide proper bank fee analysis to prevent other internal functions from viewing bank spend as a lever to hit savings goals. That key takeaway emerged at a recent NeuGroup meeting of cash managers.

One NeuGroup member present said he’s afraid that if his team does not properly manage bank fees, the procurement team will attempt to take ownership of all bank spend.

  • The member said that while it’s not clear if there would be material savings to wring out of bank fees, his concern is that procurement could seize on examples of unnecessary services (such as CD-ROM bank statement delivery) or off-market fees, and build a case for taking a leading role in pressuring banks to reduce fees.
  • “We can do better at bank fee analysis. We want to show the organization that treasury has it under control,” the member said. Many in the group shared his frustration with bank fee analysis.
  • At least one other member said she had to jump up and object when procurement at her company wanted “to treat banks like any other supplier.”

You can’t touch this. The overwhelming consensus of the group is that no one but treasury should have control over bank relationships, which are about far more than fees. The nuances of wallet management, one member said, are only understood by treasury and that’s where bank account management belongs.

  • “It’s not hardware,” another treasurer said in exasperation. “Nobody but treasury should be involved.”
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The Heavy Lift of Automating Cash Flow Forecasting

Consider the time and money needed to put AI to use in cash forecasts.

The pain of accurate cash flow forecasting is all too familiar to treasurers used to struggling with multiple models, getting access to data and convincing business units of the importance of timely and accurate forecast submissions. No wonder many treasurers are eager to learn more about using artificial intelligence (AI) and machine learning to make the job easier.

 

Consider the time and money needed to put AI to use in cash forecasts.

The pain of accurate cash flow forecasting is all too familiar to treasurers used to struggling with multiple models, getting access to data and convincing business units of the importance of timely and accurate forecast submissions. No wonder many treasurers are eager to learn more about using artificial intelligence (AI) and machine learning to make the job easier.

Good news, bad news. The treasurer of a large multinational gave his peers plenty to think about at a recent meeting by telling them the encouraging news that his company has automated the process of cash flow forecasting successfully. The bad news: It took a decade. 

  • It took 10 years, he explained, because that’s how long it took the company to create and use a single instance of SAP. “One instance is necessary for an automated cash forecasting process,” he said. “It was a significant project.”

Single truth source. “Our forecasting uses machine learning and you can only do that with one data hub that is a single source of the truth,” the treasurer said, adding that senior management must mandate that everyone uses the hub, not just treasury. 

  • The universal data hub sits on top of SAP and takes information directly from Quantum and other systems, including those for budgeting, tax and logistics. Spotfire, from TIBCO, sits on top of the data hub for reporting. 

Share the financial pain. The treasurer said getting budget for the project was a big issue, but commercial groups shared in the cost, which was well into the millions of dollars.

Worth it. “The benefits significantly outweighed the cost given the ability to proactively identify where pools of cash would be created allowing early action to dollarize and repatriate excess cash,” the treasurer said. 

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Diving Into UniCredit’s Russia Pooling Solution

The benefits of using nonresident and resident accounts in a cash pool. 

Ears perked up at a NeuGroup meeting of treasurers sponsored by UniCredit when the bank described an international cash pooling product to improve an MNC’s liquidity management in Russia while ensuring compliance with the local legal and regulatory constraints. Here are highlights:

The benefits of using nonresident and resident accounts in a cash pool. 

Ears perked up at a NeuGroup meeting of treasurers sponsored by UniCredit when the bank described an international cash pooling product to improve an MNC’s liquidity management in Russia while ensuring compliance with the local legal and regulatory constraints. Here are highlights:

  • UniCredit owns the largest foreign-owned bank in Russia and the solution gives clients the ability to manage RUB liquidity via a nonresident account as part of a cash pooling setup, providing maximum control over liquidity in Russia.
     
  • The parent company opens the nonresident account with UniCredit Russia, which is incorporated into the pool. “The pool is the way to establish a connection between the resident or subsidiary account and nonresident or parent company account,” one banker explained.
     
  • There are no limitations on the parent’s use of the nonresident account, which is not subject to Russian currency control legislation.
     
  • This structure will help facilitate intercompany financing, the underlying basis for transactions within the pool, from the parent to its Russian subsidiary.
     
  • The bank has a legal opinion confirming its cash pooling product is fully compliant with current Russian legislation. 
     
  • In an alternative funding solution, the nonresident account can be funded by the offshore parent by entering into a swap arrangement (USD/RUB) with UniCredit. The parent funds in USD and swaps with UniCredit, which sends rubles to the nonresident account. The swap ensures there is no ruble FX exposure; offshore USD cash flows avoid the risk of trapped cash; and the ruble funding level achieved is often more attractive than a local ruble loan.

“I found the UniCredit Russia presentation very interesting,” the treasurer of a large pharmaceutical company said. “It seems an efficient way to address exchange exposure and surplus cash in Russia.”

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People Risk and the Cyberfraud Balancing Act

Treasurers walk a fine line as they try to reduce the risk of cybercrime by taking humans—often the last line of defense—out of vulnerable processes like payments.

Mitigating cyberfraud in the treasury and payments area (including AP) is tricky when it comes to people risk. 

  • On the one hand, people are the weakest link because they can be convinced by cyberfraudsters deploying social engineering to violate procedure to send out payments they shouldn’t. Or, being human and fallible, they click on a link that they should not or enter a real password into a phony site.       

Treasurers walk a fine line as they try to reduce the risk of cybercrime by taking humans—often the last line of defense—out of vulnerable processes like payments.

Mitigating cyberfraud in the treasury and payments area (including AP) is tricky when it comes to people risk. 

  • On the one hand, people are the weakest link because they can be convinced by cyberfraudsters deploying social engineering to violate procedure to send out payments they shouldn’t. Or, being human and fallible, they click on a link that they should not or enter a real password into a phony site.       

Get people out of the process. Human fallibility prompts cybersecurity experts, like one from JP Morgan at our Asia Treasury Peer Group Meeting in Singapore last April, to recommend straight-through, or machine automated, processing of payments. Machines can be programmed to stick with protocols and even evaluate the authenticity of change requests.

Keep people involved in oversight. On the other hand, there are plenty of anecdotes where human beings have proven to be the last line of defense. People who show good judgment or sense something is amiss can be the difference between a cyberevent succeeding or being stopped.

This tension was a focal point of a session on cyberfraud led by Societe Generale at our recent Global Cash and Banking Group meeting. The bank cited both the need for artificial intelligence and machine verification of IBAN numbers along with robust callback procedures (just make sure there’s a secondary verification that the person on the phone is who he or she says she is, even if it sounds like them).

  • “It’s important to have a balance,” one member said. She cited internal, red team exercises where the team’s efforts to hack into treasury systems are often recognized by the treasury team after noticing that something does not look right. “People are part of the defense.”

If people are to be part of a balanced approach to cyber risk, then they have to remain educated and aware of what to look for. This is one reason treasurers updating their cybersecurity practices at our Treasurers’ Group of Mega-Caps meeting recently cited increasing the frequency of meetings with information security heads to at least quarterly. 

  • “The types of attacks and various vulnerabilities change so fast now, that we need to keep up,” one treasurer noted.

People pleasers beware. Customer service (aka business support) oriented roles or individuals with a service mind-set are often those targeted. 

Remote country staffers. Another area of vulnerability is people with access to payment systems at the periphery, such as joint ventures or minor affiliates in remote countries far from headquarters. 

  • So don’t ignore these cohorts when balancing cybersecurity systems and people training.
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Digital and People Savvy Applicants Desired

What skills should corporate finance functions look for? AI understanding, yes, but a human touch, too.

Today and certainly in the not-too-distant future, success will come to finance leaders who find the right balance between digital savvy and human self-awareness to solve problems and perform at a high level; and do this with a diverse set of people across the enterprise. 

What skills should corporate finance functions look for? AI understanding, yes, but a human touch, too.

Today and certainly in the not-too-distant future, success will come to finance leaders who find the right balance between digital savvy and human self-awareness to solve problems and perform at a high level; and do this with a diverse set of people across the enterprise. 

  • Digital savvy and will to learn. HR finance leads who joined our treasury peer group members at a recent meeting noted how experienced finance professionals need to show a willingness to become digital savvy. Learning from digitally native millennials and Gen Zers is a good place to start.
  • Mentor and mentee. The give-to-get is to mentor the digitally savvy on finance specialty skills and show how finance supports the business (all while absorbing a little digital savviness).  

This will transition us to an AI future where machines do the heavy lift of processing transactions, accounting, auditing, pulling data and doing logical analysis based on learned technical procedures. Humans will then tell the stories that motivate action, adhere to culture and judge whether machine-made decisions are appropriate for us as human stakeholders.

Accordingly, human skills will become increasingly important with time.

  • EQ and self-awareness. Perhaps the most important part of the skill wheel is a high emotional quotient, in order to be aware of your own emotions and those around you. It’s important to be socially aware and able to read people in order to best share and learn from them and manage them as a team.
  • Read the culture. A big part of this is being able to read and play your role in line with the organizational culture. There’s a lot of emphasis these days on diversity and inclusion, which also means people with different skill sets, specialist and generalist finance experiences, as well as those intimately familiar with the business. Each may look at a problem differently.
  • Dance when invited. As one member put it, “Our organization goes out of its way to invite everyone to the dance, but people still have be willing to dance.” 

But what do you do when the super specialists and digital savvy don’t know that they have to dance? Can EQ, self-awareness and becoming more human be learned in a leadership development program or elsewhere on the job?

This is where mentoring and coaching are important. Future finance leaders, like today’s, will need to learn how to speak to people on the phone, make eye contact and understand how they “show up” in meetings. To be relevant in the future, however, those that can will also need to be digitally savvy enough to interface with the apps and intelligent machines that will be processing the data to support and make key finance-related decisions in order to make them human.

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What’s Keeping Bank Treasurers Busy This Fall

Banks should get ready for “a relatively active fall” when it comes to capital and liquidity, as well as Basel rules, one expert said.

Ben Weiner, a partner at law firm Sullivan & Cromwell, told members of NeuGroup’s bank treasurers group to be ready for lots of activity when it comes to managing capital and liquidity. New rules like accounting for current expected credit losses (CECL) have dominated the conversation but there are other areas that need to be considered:

Banks should get ready for “a relatively active fall” when it comes to capital and liquidity, as well as Basel rules, one expert said.

Ben Weiner, a partner at law firm Sullivan & Cromwell, told members of NeuGroup’s bank treasurers group to be ready for lots of activity when it comes to managing capital and liquidity. New rules like accounting for current expected credit losses (CECL) have dominated the conversation but there are other areas that need to be considered:

  • Trading book review. The Basel Market Risk Capital Standard, which is referred to as a fundamental review of the trading book, is on the horizon, Mr. Weiner said. He said this issue was on the regulatory agendas published by the OCC and the FDIC this past spring, indicating that the release of a proposal to revise market risk capital requirements is a priority of the banking agencies. 
     
  • Basel IV. There’s the more comprehensive implementation of what’s commonly referred to by industry participants as Basel IV, which are the standards that the Basel committee released in December 2017.

    This again presents complex questions that relate to many different aspects of the bank capital framework, including the future role and relevance of the advanced approaches (that is, the internal ratings-based approach for credit risk), how the standardized approach for operational risk will factor into the overall capital and stress testing framework, and which banking entities will be subject to the revised Basel standards.
     
  • Share repurchases. Mr. Weiner also discussed what has changed for non-CCAR bank holding companies in terms of the overall requirements for share repurchases. He said the reg requirements relating to share purchases developed over time and the framework “as it exists now has duplicative, overlapping and inconsistent requirements.”

    For a long time, there’s been a rule that requires bank holding companies to provide notice and gain prior approval for repurchases in some circumstances if they would make aggregate repurchases net of any issuances that exceed 10% of their net worth. 

    In 2009, the Fed released SR letter 09-4, which established a supervisory expectation that bank holding companies would consult with supervisory staff and seek a non-objection before repurchases in some cases. The Basel III capital rules introduced graduated constraints through the “capital conservation buffer,” as well as a stand-alone requirement that banking entities obtain prior approval for any repurchase of common stock. 

    The stand-alone prior approval requirement, which was eliminated in the simplifications rulemaking, had presented significant practical difficulties for non-CCAR bank holding companies, especially when they sought to conduct repurchases promptly in response to market conditions.

    Tailoring. The Fed and other banking agencies have proposed tailoring the application of capital and liquidity requirements, as well as enhanced prudential standards, to large domestic banking organizations and the US operations of foreign banking organizations. Agency principals have signaled that the goal is to finalize the proposals this fall, by the 18-month anniversary of S. 2155, the Economic Growth, Regulatory Relief, and Consumer Protection Act.
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Treasurers Grapple with the Prospect of Negative Interest Rates in the US

The only thing that’s certain about interest rates is uncertainty and divided opinions.

In Europe. Treasurers at a NeuGroup meeting sponsored by Unicredit last week heard a senior bank executive say he expects to see negative interest rates in Europe for the next two to three years. More than $17 trillion in debt now carries negative yields.

  • This week, Unicredit’s CEO told a French TV channel that the bank is working on measures to transfer the European Central Bank’s negative rates “onto big companies or some big clients”—those with deposits of more than 100,000 euros. 

The only thing that’s certain about interest rates is uncertainty and divided opinions.

In Europe. Treasurers at a NeuGroup meeting sponsored by Unicredit last week heard a senior bank executive say he expects to see negative interest rates in Europe for the next two to three years. More than $17 trillion in debt now carries negative yields.

  • This week, Unicredit’s CEO told a French TV channel that the bank is working on measures to transfer the European Central Bank’s negative rates “onto big companies or some big clients”—those with deposits of more than 100,000 euros. 

In the US. At an earlier meeting of assistant treasurers, members held sharply different views about whether negative rates would cross the Atlantic. They also discussed how companies should prepare for the possibility.

It could happen here. One member whose company requires significant cash on its balance sheet was gloomy about the direction of fed funds, which have been cut twice by 0.25% in as many months, and now rest between 1.75% and 2%. The company also has a large bond portfolio, and treasury will be discussing the negative-rate issue with the board of directors later this year. 

  • The assistant treasurer said the Fed appears to have bowed to President Trump’s wish for lower rates—he recently called for rates at zero or below—if not to the extent the president wants. 
     
  • Given where fed funds stand today and the likelihood of an economic downturn prompting further cuts, the possibility has become less far-fetched. Former Fed Chair Alan Greenspan said in an August interview with Bloomberg that there is no barrier to US treasury yields falling below zero. 

It can’t happen here. Most participants argued that fed funds would remain in positive territory, with one member mentioning two Fed studies that argue against negative rates. “Since the Fed’s own studies say don’t go there, they probably won’t,” he said.

  • The San Francisco Fed concluded in a late August study that negative rates actually decreased rather than increased Japan’s immediate and medium-term inflation, with the caveat that its economic deterioration could have been steeper without them. 
     
  • However, another San Francisco Fed paper argued in February that negative rates could have mitigated the depth of the Great Recession and sped up economic recovery.

If it does. One option may be for companies to lower cash balances by making payments faster, members said, or when parking cash, go further out the yield curve and take on more credit risk. One member suggested returning more cash to shareholders, but then questioned whether they would want it. 

  • In the end, said the pessimist, companies concerned about the stability of the market may simply resign themselves to negative rates. “It’s negative, but it’s a known negative.” 
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Treasury Taking on a Greater Role in Compliance Management

A surprising percentage of companies have no plan in place for monitoring and/or managing regulations, while more of that responsibility has shifted to the treasury function.

In its 2019 Compliance Survey, Peachtree City, Ga.-based Strategic Treasurer found that one in three companies has no plan in place for monitoring and/or managing ever-increasing regulations. Among companies that do, the treasury function is increasingly taking on that role in some capacity—over half today, compared to just a third of companies in last year’s survey that said they use treasury for that purpose.

“More companies’ treasury groups are getting involved in regulations and compliance, and that shows healthy progress by some firms,” said Craig Jeffery, managing partner at Strategic Treasurer.

A surprising percentage of companies have no plan in place for monitoring and/or managing regulations, while more of that responsibility has shifted to the treasury function.

In its 2019 Compliance Survey, Peachtree City, Ga.-based Strategic Treasurer found that one in three companies has no plan in place for monitoring and/or managing ever-increasing regulations. Among companies that do, the treasury function is increasingly taking on that role in some capacity—over half today, compared to just a third of companies in last year’s survey that said they use treasury for that purpose.

“More companies’ treasury groups are getting involved in regulations and compliance, and that shows healthy progress by some firms,” said Craig Jeffery, managing partner at Strategic Treasurer.

When monitoring is in place, only 31% of large companies assign it to an individual in treasury, and only 16% of companies have a dedicated regulatory team or person at the corporate level.

Tech underutilized. The survey also found that companies do not appear to be taking advantage of available technology to automate aspects of compliance. In fact, 76% of the 150 respondents reported that they do not leverage a technology solution that provides compliance-related functionality or modules.

Mr. Jeffery said that high percentage was surprising, given that most treasury management systems (TMSs) today offer compliance-related modules, and that there are stand-alone solutions as well.

“It takes time to adapt to new regulations, but given the level of regulations today, that so many don’t have solutions in place to help them is a concern,” he said, adding that is especially so given two-thirds of responding companies said they anticipate regulations increasing in the next one to two years.

Other survey findings include:

  • Know your customer (KYC) requirements generate the most concern, and were cited by 72% of large companies, while 66% cited FBAR reporting about foreign accounts.
  • However, among companies that do have compliance-related solutions, only 50% help with FBAR and 36% with KYC.
  • Bank account management (BAM) is seen by 69% of respondents as the area most in need of solutions to facilitate compliance management.
  • Dedicated BAM systems are used by 26% of large companies, and 28% use a SAAS or installed TMS solution.
  • Only 18% of large companies have fully automated the FBAR process, with 44% partially automated.
  • 23% of large companies have a SWIFT identifier code, and 13% use a SWIFT service bureau.
  • Staff security training is feeble. Only 13% of responding companies provide annual training on customer security programs, while 17% have set up a one-time training session, 25% are in the process of developing training, and the rest either do not offer or plan to offer training, or they’re unsure
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CECL to Reshape Credit Products

As new rules on how banks account for credit losses approach at the start of next year, corporate borrowers may want to start asking their lenders how their loans and other credits may be affected.

The Financial Accounting Standards Board’s Current Expected Credit Loss (CECL) standard, which becomes effective Jan. 1, requires banks to recognize on day one the losses expected over the life of their credit products. Several banks, including JPMorgan Chase, Citigroup, Discover Bank and Synchrony Financial have reported their loan-loss reserves are likely to increase by double-digit percentages, although one bank, Wells Fargo, anticipates a sizable decrease.

As new rules on how banks account for credit losses approach at the start of next year, corporate borrowers may want to start asking their lenders how their loans and other credits may be affected.

The Financial Accounting Standards Board’s Current Expected Credit Loss (CECL) standard, which becomes effective Jan. 1, requires banks to recognize on day one the losses expected over the life of their credit products. Several banks, including JPMorgan Chase, Citigroup, Discover Bank and Synchrony Financial have reported their loan-loss reserves are likely to increase by double-digit percentages, although one bank, Wells Fargo, anticipates a sizable decrease.

It’s banks’ earnings, stupid. Most corporate credit and corporate-loan products tend to be relatively short term, but non-investment-grade products and even high-grade products may, by definition, still experience losses. Banks will have to estimate those losses upfront and set capital aside for them, unlike the current incurred-loss method that recognizes losses when they become probable.

“Banks are going to have to shift the way they do business somewhat, to avoid the hit to earnings from setting aside more capital,” said Richard Bove, financial strategist at Odeon Capital Group and a long-time banking-industry analyst.

Mr. Bove said banks will consider the extent to which a commercial loan may increase required reserves. If it is an additional 1% or 2% reserve against the loan, borrowers will have to make up the difference in terms of price, since tying up capital will impact a bank’s earnings.

Some borrowers impacted more than others. “You have to believe that bankers are spending a lot of time with ‘what if’ models to try to determine where they should be lending their money and what will represent the highest potential return on that money,” Mr. Bove said. “It may prompt some banks to shift their asset allocations, to avoid increasing their loan-loss reserves significantly. So which industries will benefit from such changes in asset allocation and which will be hurt?”

Capital structure fallout. Corporate borrowers planning to seek credit or refinance existing lines in the first part of next year should discuss with their bankers what changes are likely to come down the pike and if their credit will be affected. In some cases, especially for leveraged companies, the changes may prompt rethinking capital structures.

Jon Howard, senior consultation partner at Deloitte & Touche, noted regulators have raised the concern that banks may man-date shorter terms for companies seeking unsecured credit.

“The company may want to lock up its rate for five years, and the bank may prefer a shorter-term loan and be willing to come back to the table more frequently,” Mr. Howard said, adding that he thinks it is unlikely the accounting change will significantly impact good business decisions, since if the first bank won’t provide a certain product, the borrower can seek it from another lender.

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Tassat Offers Less Volatile Method of Corporate Blockchain Payments

Company creates practical application for blockchain for banks.

 The hype about blockchain technology has subsided as financial institutions and their corporate clients have set to work on developing practical applications. Tassat Group, known as trueDigital until a recent rebranding, launched just such an application last December that is being used by New York-based Signature Bank’s customers, and soon a large investment bank may make the service available to its corporates. 

“We’re working with another top-tier investment bank on a use case similar to what we have with Signature,” said Thomas Kim, Tassat’s CEO. 

Last December Signature Bank, a $40-billion-asset commercial bank servicing corporate clients, launched its Signet digital-payments platform based on Tassat’s blockchain technology. Several million dollars in domestic and international payments are currently made daily among the bank’s institutional clients, according to Signature Bank Chairman Scott Shay.

The hype about blockchain technology has subsided as financial institutions and their corporate clients have set to work on developing practical applications. Tassat Group, known as trueDigital until a recent rebranding, launched just such an application last December that is being used by New York-based Signature Bank’s customers, and soon a large investment bank may make the service available to its corporates.

“We’re working with another top-tier investment bank on a use case similar to what we have with Signature,” said Thomas Kim, Tassat’s CEO, adding that it “falls right in line with folks who would read iTreasurer.”

Last December Signature Bank, a $40-billion-asset commercial bank servicing corporate clients, launched its Signet digital-payments platform based on Tassat’s blockchain technology. Several million dollars in domestic and international payments are currently made daily among the bank’s institutional clients, according to Signature Bank Chairman Scott Shay.

American PowerNet, an independent power-supply company based in Wyomissing, Pa., has used Signet to facilitate real-time payments in the renewable energy sector. The blockchain service enables the company to settle with power generators on a daily basis once schedules are confirmed, compared to the traditional 30-day payment structure.

First the downside. The payments must be made between Signature Bank clients, and opening an account at the bank requires a $250,000 minimum average monthly account balance and going through the bank’s intensive regulatory-vetting process.

Then the plusses. Payments can be made 24x7x365, and funds are exchanged directly between Signature Bank clients, with no transaction fee. Mr. Shay noted that instantaneous settlement and eliminating credit risk have been a major draw, and so has the bank’s vetting process, given the finality of instant payments. Tassat does not employ a tradable cryptocurrency to facilitate payments, which can be highly volatile—better known digital-payment firm Ripple’s XRP has fluctuated alongside cryptocurrencies such as Bitcoin and Ethereum. Signet instead partners directly with banks and allows them to create their own “digital coins” to facilitate transactions. Each coin, or signet, represents $1 held in a deposit account at Signature Bank.

Mr. Shay pointed to cargo-shipment companies engaging in thousands of smaller transactions and companies selling digital products as particularly interested in Signet, in part because the blockchain-based record it provides is immutable and time-stamped.

“We wanted to build a tool—not a token—that would aid American PowerNet in both the purchasing and payments sides of the renewable energy business,” R. Scott Helm, CEO of American PowerNet, said in a statement. “To meet this goal, we identified Signature Bank’s Signet as the most secure way to settle in US dollars in real-time without introducing currency risk into the ecosystem.”

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Low Rates Deliver an Early Christmas

Corporates issuing debt at rock-bottom rates exult after reaping major savings.

“Sometimes the market gives you a gift,” exclaimed one treasurer at a recent NeuGroup meeting while recapping highlights from the last few months. In this case, the gift came in the form of $300 million in net present value savings after the company took advantage of the late-summer swoon in interest rates.

  • The company cashed in by calling—at par—30-year-bonds yielding 4.2% and replacing them with debt yielding 3.1%. And yes, the timing of low rates matching up with the bonds’ call dates was sweet serendipity. 

Corporates issuing debt at rock-bottom rates exult after reaping major savings.

“Sometimes the market gives you a gift,” exclaimed one treasurer at a recent NeuGroup meeting while recapping highlights from the last few months. In this case, the gift came in the form of $300 million in net present value savings after the company took advantage of the late-summer swoon in interest rates.

  • The company cashed in by calling—at par—30-year-bonds yielding 4.2% and replacing them with debt yielding 3.1%. And yes, the timing of low rates matching up with the bonds’ call dates was sweet serendipity. 

Another treasurer who joined the cavalcade of corporates issuing debt last month—Bloomberg reports that companies sold more than $308 billion of notes in September, the first time ever that corporate issuance has topped $300 billion in a month—said strong demand for his company’s big debt deal produced “massive” NPV savings, making the issue a “home run.”

Timing is everything. Members agreed that treasury needs to have the ability to take advantage of the opportunities—or gifts—that fixed-income markets provide. “Timing in volatile markets is critical,” one participant said. That recalls a key takeaway from a NeuGroup meeting of mega-cap treasurers in 2017: 

  • Winning authority from the board to go to capital markets opportunistically is a best practice. Treasury needs to have authority from the finance committee to refinance or issue debt when market stars are in alignment. This provides the flexibility to act fast, and members agreed it’s ideal for everyone as long as there’s full transparency between treasury and the board of directors.

    One member said his department does not have multi-year authority but hopes to get there. Another half-joked that the finance committee thinks it’s smarter than it is. 

The flexibility to say “no go.” Equally important to having the authority to strike while the market iron is hot is having the right and judgment to say “no go” to the banks underwriting a bond issue if conditions have soured the morning the deal is scheduled.

“You want to give yourself the timing flexibility from a funding, liquidity and organizational standpoint to provide a larger window of timing options so that you aren’t boxed into one specific date,” one treasurer at the meeting said.

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Strategic Finance Leaders to Overtake Career Treasurers in Talent Race

In the race toward the future of finance, should talent development programs be molding leaders for general finance, separate from specialist functions like treasury?

Our talent-themed treasurers’ meeting last week at the University of Washington’s Foster School of Business revealed a deepening fault line between treasurers who are part of strategic finance leadership rotations and those who are career treasury. 

  • It also showed that more rotational programs designed to foster talent and develop future finance leaders will include specialist (read: treasury) function leadership roles.

In the race toward the future of finance, should talent development programs be molding leaders for general finance, separate from specialist functions like treasury?

Our talent-themed treasurers’ meeting last week at the University of Washington’s Foster School of Business revealed a deepening fault line between treasurers who are part of strategic finance leadership rotations and those who are career treasury. 

  • It also showed that more rotational programs designed to foster talent and develop future finance leaders will include specialist (read: treasury) function leadership roles.

“Welcome to the specialist side.” That’s what one member, newly arrived in treasury as part of her strategic finance leadership rotation, was told when it was announced she got the role of treasurer.  

  • Treasury and tax tend to be specialist assignments that are not always integrated in finance leadership or rotational programs. The mind-set of being different is often part of the culture. 

We are different. The “we are different” mind-set was underscored by another member who, at the conclusion of a discussion of finance leadership and rotation programs, pointed out that treasury mostly lies outside these at his company. But that’s quickly becoming the minority view, which he acknowledged. 

Next-generation treasurers likely to be part of a strategic rotation. Indeed, at the meeting of our Treasurers’ Group of Mega-Caps in the spring, I asked the treasurers who have been in the role for 10 years or more whether they thought they would be replaced by a strategic finance leader or a treasury veteran.

  • Most said that a strategic finance leader was more likely. Meanwhile, the strategic leaders may flow through the AT or senior director position.

Here are two reasons why strategic finance leaders will absorb specialist functions: 

  1. Technical skills will be embedded in machines. The specialist function silos are likely to break down further in future finance roles where smart machines and AI do the heavy lifting on executing hedge programs and even issuing debt. People will be migrated to human activities like problem solving and business support coordination. 
  2. Coverage model for the business. The business support function of treasury needs to start at the top. One member who is part of the strategic rotation treasurer cohort noted that she has been speaking with other treasurers about how to better support the business from treasury.

The best way is to elevate the business support role to the highest level and double-hat treasury leaders with a business coverage role, akin to how banks cover clients. Having someone in the role who has been directly engaged with the lines of business through their career will help.

The key success factor missing from many treasury organizations with treasury business support or consulting roles is that they are not at a high enough level to have the needed impact.

  • The need to put business support at the top of the org chart for each area of the finance function is likely what will put specialist functions like treasury into every strategic finance leadership rotation before the end of the next decade.   

Question everything. The final impact that strategic finance leaders rotating into treasurer roles will have is to question and revalidate much of what treasury does. This is increasingly the mandate CFOs are giving them. 

  • One example is questioning the extent to which treasury dominates the procurement of financial services, banking and insurance, in particular. Another is how the company approaches risk management—with a focus on bringing a more integrated framework to manage the various risk factors enterprises face. 
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Can the Great Libor Migration Happen?

Trillions of US dollars need to start referencing SOFR, the Fed’s new overnight funding rate, very soon. Can the market handle it? Does it want to? Presentations at several NeuGroup meetings in the last few weeks have delved into those questions and the likely demise of Libor. 

In just a few short years – possibly by the end of 2021 – the London Interbank Offered Rate, otherwise known as Libor, may cease to exist. This means that almost $200 trillion linked to the tainted rate, things like derivatives, CDOs, student loans, structured products, adjusted-rate mortgages and the like, will need to be moved to the Fed’s Secured Overnight Financing Rate. 

Trillions of US dollars need to start referencing SOFR, the Fed’s new overnight funding rate, very soon. Can the market handle it? Does it want to? Presentations at several NeuGroup meetings in the last few weeks have delved into those questions and the likely demise of Libor. 

In just a few short years – possibly by the end of 2021 – the London Interbank Offered Rate, otherwise known as Libor, may cease to exist. This means that almost $200 trillion linked to the tainted rate, things like derivatives, CDOs, student loans, structured products, adjusted-rate mortgages and the like, will need to be moved to the Fed’s Secured Overnight Financing Rate. 

It won’t be easy. At both recent NeuGroup FX Managers’ Peer Group meetings, members were told that the FCA might declare Libor as an unrepresentative benchmark, which means the FCA will no longer compel banks to submit Libor quotes. Then what? It’s all in the language of change, specifically, fallback language.

  • Fallback language is a key transition element because it facilitates moving existing transactions priced over Libor to a new benchmark. The Fed and its ARRC, along with the International Swaps and Derivatives Association (ISDA), have both proposed such language, the latter in contracts for derivatives referencing Libor and other key interbank offering rates (IBOR). 
  • By the way, ISDA’s proposal drew comments from 147 organizations, and according to association’s results published in December, only seven came from nonfinancial corporates. After that fallback language kicks in. 
  • Good to know. About 95% of Libor contracts are for derivatives

Don’t let it get that far. Although fallback agreements are a good safety net, market players shouldn’t let it get to that point. The easiest solution is for all market participants to transition to the new rate before 2021. But it’s tough sell.

  • Libor: breaking up is hard to do. “Here we are in September of 2019, and I would say that across our client base we really haven’t seen clients pulling away from Libor-based products in advance of the 2020-21 time frame with as much urgency as some have advocated for,” Andrew Little, managing director at Chatham Financial, said in a recent NeuGroup Bank Treasurers’ Peer Group webinar. “As a matter of fact, given the shape of the curve, we’ve seen some clients actually extend the duration of their Libor exposure well out to seven years, 10 years and beyond.

Just what is SOFR? On one hand it’s a mouthful of Fed-speak. In reality, it’s an overnight, risk-free reference rate that correlates closely with other money market rates and is based on actual market transactions. So, it’s a repo rate, and thus backward looking (vs. the forward-looking Libor) and is calculated as a volume-weighted median of transaction-level tri-party repo data collected from the Bank of New York Mellon as well as GCF Repo transaction data and data on bilateral Treasury repo transactions cleared through FICC’s DVP service, which are obtained from DTCC. 

  • The good news is that since SOFR is based on transactions that happened in the tri-party repo market, it’s not easily manipulated. The bad news is that it can be very volatile. During last week’s liquidity crunch, SOFR spiked to a record 5.25%, according to the Federal Reserve Bank of New York, yanked higher by borrowing rates for overnight repurchase agreements, or repos.

Still needs a spread component. Since SOFR is a collateralized or secured overnight rate and Libor is uncollateralized term rate reflective of bank credit, there needs to be some sort of credit spread to adjust for the basis between the two rates.

  • At this point SOFR is too young to create a credit component. When it is more robust then a term rate can be developed, experts say. Regulators also don’t want SOFR to become the new Libor, i.e., a new tool for people to manipulate the market. This means it must be IOSCO compliant and have more of a track record. The International Organization of Securities Commissions published a set of standards for approved global benchmarks back in 2013.
  • Chatham reports that there is a strong interest from the market to develop one soon, although the path forward is still unclear. “I think most of the [Libor-SOFR] conversation reduces in some way to the desire to replicate the time-varying credit spread that is inherent in Libor,” says Todd Cuppia, managing director at Chatham. That reality has increased the relevancy of what he calls the “alternative, alternative reference rates.” The two leading contenders are Ameribor and the ICE Bank Yield Index.
  • Take comfort. For longer-dated Libor contracts, banks and the market may take some comfort from the fact that the historical spread method has already started to be priced into the forward curves. By that measure, “some may say that the transition is becoming priced in to the extent you believe that current basis markets and historical averages are going to be in range of what the different working groups have suggested, which was a multiyear average or median of those rates,” Mr. Cuppia said.
  • “If you look at fed funds as a reasonable proxy for SOFR and you look at the basis between fed funds and Libor, you can see a pretty meaningful decline in those basis rates to what could be a fair representation of their historical average,” he said. “I believe that’s what could be guiding the thinking of those who are using those much longer-term Libor contracts relative to what their alternatives may be.”

No magical thinking, please. Don’t assume that there is a possibility that Libor is staying. Along with the FCA, both the SEC and Fed say that it is going away. Still even the Fed sees resistance (or futility of forcing the issue).

  • “Tellingly, contracts referencing US dollar Libor, without robust fallback language, continue to be written,” the New York Fed’s John Williams said in a speech this summer. He acknowledged the shortcomings of SOFR and replacement benchmarks, but said, “don’t wait for term rates to get your house in order. Engage with this issue now and understand what it means for your operations.”

Perhaps the FCA, Fed and SEC take a lesson from Abraham Lincoln’s observation on a man and his pear tree. “A man watches his pear tree day after day, impatient for the ripening of the fruit. Let him attempt to force the process, and he may spoil both fruit and tree. But let him patiently wait, and the ripe pear at length falls into his lap.”

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The Downside of Precision, the Hulk Inside Life Sciences and Thinking Cash, Cash, Cash

Three takeaways from 2019 H1 peer group meetings selected by NeuGroup founder Joseph Neu.

Here are three insights that stood that stood out to me from our first half meetings:

Sometimes precision works against you. Too much precision can muddle the early stages of assessing risk. When pursuing the first steps, risk professionals may want to look past their desire to employ precise information and start instead with ballpark estimates

Three takeaways from 2019 H1 peer group meetings selected by NeuGroup founder Joseph Neu.

Here are three insights that stood that stood out to me from our first half meetings:

Sometimes precision works against you. Too much precision can muddle the early stages of assessing risk. When pursuing the first steps, risk professionals may want to look past their desire to employ precise information and start instead with ballpark estimates

  • “As you get more precise, the culture of some companies or groups within companies will tend to get into debates about whether a precise risk measurement is right or wrong,” said a member of the Internal Auditors’ Peer Group at a recent meeting. “To avoid going in that direction, we try to simplify.” The PDF is here.

Why it matters: The spectrum of risks continues to grow in scope and potential impact. When tackling enterprise risk management or internal audit, therefore, it’s critical not to get too hung up on detailed quantification. It might suffice to ask, “Is this a material risk to the survival of the company, or not,” for example.

Binary reality: life sciences companies swing from the Hulk to Bruce Banner. Treasurers grapple with capital allocation issues as cash flows wax and wane with drug approvals, expiring patents and other ups and downs. There’s nothing like dramatic stock price moves to illustrate the feast or famine nature of revenue and cash flow at life sciences companies that live or die by the success or failure of clinical trials for drugs or devices. 

  • To kick off a discussion on how this binary reality affects financial strategy, one member of the Life Sciences Treasurers’ Peer Group showed his peers a chart of his company’s stock dropping fast from the upper left to the lower right. 
  • The firsthand account of this company’s binary bind sparked a wide-ranging discussion about the challenges of capital allocation and structure at companies that one day resemble the Incredible Hulk (successful drugs coming out of the pipeline, fast growth, high margins) and then revert to being a not-so-incredible Bruce Banner (drugs going off patent, sluggish pipelines, flat revenues)—and back again. PDF is here.

Why it matters: Expected values, including VaR and even NPV may not fully capture binary events. If you are on the wrong side of the option tree, you can be totally off course, so it’s best to understand potential binary outcomes in financial planning and analysis.

Broaden scope to think cash, “end to end.” Treasury organizations can drive home the idea of the entire organization thinking about cash. A member shared his treasury organization and the plan to scale it with the growth of the company while containing cost increases. The underlying structure—one that encompasses a broad treasury and finance organization (TFO)—will support this objective in many tangible and intangible ways. 

  • Consolidating all the company’s functions that touch cash and forecast and manage exposures under the treasurer, including FP&A and credit and collections, makes for a large group, but it bolsters the treasurer’s strategic influence at a leadership level. From our Tech20 meeting. PDF is here.

Why it matters: Rescoping finance as a growth company, before turf grows to protect, can make the finance function exponentially more scalable and effective. Doing this around cash also is transformative. 

Members will find the full meeting summaries on their communities. Enjoy!

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Different Views on the SOFR-Libor Waiting Game

Never put off till tomorrow what may be done day after tomorrow just as well.” 

That cheeky line from Mark Twain turns on its head conventional wisdom on taking action. It also might apply to how some treasury teams are approaching preparation for Libor’s demise. And there are other variations on the “what, me worry?” theme.

Never put off till tomorrow what may be done day after tomorrow just as well.” 

That cheeky line from Mark Twain turns on its head conventional wisdom on taking action. It also might apply to how some treasury teams are approaching preparation for Libor’s demise. And there are other variations on the “what, me worry?” theme.

  • One participant at a recent NeuGroup meeting of cash investment managers said, with a smile on her face, “We’re not worried about Libor; someone will figure it out. We haven’t taken any action.” She expects the company’s banks will clear the path to a smooth transition. 

A slightly different view of preparedness surfaced at a meeting last week of assistant treasurers:

  • ATs appeared to be well-versed, if stuck in place, regarding regulators’ push to move away from Libor to the secured overnight funding rate (SOFR). Yes, treasury must understand the company’s Libor exposures and make sure there’s fallback language in those contracts. But otherwise, right now it’s a big waiting game with a shortage of to-dos. 
  • Coincidentally, on the same day as the discussion, the Alternative Reference Rates Committee, charged with guiding the transition to SOFR for cash products, released a “practical implementation checklist” to implement the risk-free rate. Any takers?
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Sustainability and Smart Investing: Why the Buzz About ESG Is Growing

Interest in ESG investing is blossoming as companies search for purpose beyond profits. 

WHY: You can do good and do well. Academic research cited by DWS “provides strong evidence that environmental, social and governance factors positively influence corporate valuation and investment performance.” Also:

  • “ESG data can potentially help mitigate against both idiosyncratic and systematic risks.
  • 90% of ESG study results demonstrate that prudent sustainability practices have a “positive or neutral influence on investment performance.
  • Key takeaway: Think about ESG as another risk factor in your screening criteria which aligns closely with other credit risk factors. This alignment will only strengthen as more investors employ ESG criteria. 

Interest in ESG investing is blossoming as companies search for purpose beyond profits. 

WHY: You can do good and do well. Academic research cited by DWS “provides strong evidence that environmental, social and governance factors positively influence corporate valuation and investment performance.” Also:

  • “ESG data can potentially help mitigate against both idiosyncratic and systematic risks.
  • 90% of ESG study results demonstrate that prudent sustainability practices have a “positive or neutral influence on investment performance.
  • Key takeaway: Think about ESG as another risk factor in your screening criteria which aligns closely with other credit risk factors. This alignment will only strengthen as more investors employ ESG criteria. 

Hard data: DWS says that, historically, moving higher in ESG ratings in a portfolio has not resulted in a significant loss of yield opportunity. Check out these facts and figures:

  • Bloomberg Barclays Credit 1-3 Year Index recently yielded 2.16%.
  • DWS created a portfolio from the index consisting of “true ESG leaders,” “ESG leaders,” and “upper midfield” issuers; it eliminated “lower midfield,” “ESG laggards” and “ESG true laggards.” That produced a yield of 2.13%
  • Eliminating everything except true ESG leaders and ESG leaders resulted in a yield of 2.03%
  • The actively managed DWS ESG Liquidity Fund consistently ranks No. 1 on Crane Data’s list of institutional money market funds, and recently sported a seven-day yield of 2.29%
  • Starbucks, which attended the NeuGroup meeting, worked with DWS to launch the ESG money market fund in September 2018. The fund has $459 million in assets.
  •  Fitch says global assets in ESG money funds increased 15% in 2019 H1 to $52 billion

Soft but significant: JPMorgan Chase CEO Jamie Dimon and the Business Roundtable are promoting sustainability as part of a rethink of the purpose of a corporation that emphasizes the interests of all stakeholders and not just shareholders. 

  • DWS noted this shift in part reflects the recognition that consumers, especially young ones, place real importance on the values of the companies they patronize. 
  • Bottom line: More companies will embrace sustainability to boost their brands and make money. Those companies and their investors will likely outshine peers that fail to adapt to this new paradigm.

HOW: DWS outlined a variety of approaches for corporates that want to incorporate ESG into their investments. Think of a ladder that starts with a passive, minimalist approach to ESG and climbs toward more active commitments designed to have significant impact:

  • Rung 1: Avoid the bad stuff. It’s called negative screening and it means avoiding controversial sectors like coal and tobacco. Check out an ESG money market mutual fund to dip your toe in the (clean) ESG water. 
  • Rung 2: Embrace good stuff. Consider an ESG separately managed account (SMA) for excess cash and review the criteria based on sustainable development goals (SDG) as defined by the United Nations Development Program, including affordable and clean energy and responsible consumption and production.
  • Rung 3: Carbon offsets. Think about purchasing renewable energy credits (RECs). Or buy renewable energy from operating projects. DWS notes the former is a pure expense on the P&L and the latter may mean paying a premium for the energy purchased. 
  • Rung 4: Higher impact solutions. These include using strategic cash to reach specific goals, such as tech companies investing in affordable housing.
  • Rung 5: The investment management model. The idea here is to purchase assets like renewable energy plants and manage them to achieve sustainability goals and an economic return. 
  • Rung 6: The corporate venture model. DWS described a pooled investment vehicle to make direct investments in technologies and products to promote sustainability generally as well as for the companies investing. This also is designed to produce economic returns but involves more risk.

This sparked a discussion of what, if any, role treasury teams play in their companies’ venture capital arms.

WHO & WHAT: In a live poll at the NeuGroup meeting, 40% of those participating said their companies are currently exploring ESG investing. 

  •  Another 12% are adopting and integrating ESG investing to the extent possible while 4% are implementing or testing it.
  • More than a third (36%), though, said ESG investing either does not interest their companies or is outside of treasury’s scope to pursue. Another 8% have evaluated and passed on ESG investing. 
  • One presenter said the only reason his company is not invested in ESG money funds is its current decision not to use prime funds, something he said will change when it has more stable cash balances.
  • Another NeuGroup member told the group her company invests in carbon credits as part of the company’s allocation to less liquid, higher-return assets. The company plans to double that allocation this year.
  • One participant said that in addition to ESG investing, his company is exploring an ESG-linked debt structure and revolvers with a pricing grid tied to the company’s own sustainability scores.

What’s your take on ESG? We want to know what you’re doing—or not doing—and why. 

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Sharing the Horse Race Information

Reasons to tell asset managers where they rank in the race against peers.

A discussion of asset manager scorecards at last week’s NeuGroup meeting on corporate cash investment management prompted the question of whether, during review meetings, you should tell external managers where they rank among peers on the performance metrics you track. In other words, should you reveal the results of the horse race to the horses?

  • Share results and compare to peers. The consensus was that yes, treasury should provide the information on win, place, show and below—although no one reveals the names of other asset managers in the horse race. Most tell the asset manager across the table which line was theirs so they can see how they stack up against peers.

Reasons to tell asset managers where they rank in the race against peers.

A discussion of asset manager scorecards at last week’s NeuGroup meeting on corporate cash investment management prompted the question of whether, during review meetings, you should tell external managers where they rank among peers on the performance metrics you track. In other words, should you reveal the results of the horse race to the horses?

  • Share results and compare to peers. The consensus was that yes, treasury should provide the information on win, place, show and below—although no one reveals the names of other asset managers in the horse race. Most tell the asset manager across the table which line was theirs so they can see how they stack up against peers.

Why share the information? According to members, the reason to reveal the results is to show the asset manager where they are doing well, e.g., return performance, and perhaps not so well, e.g., customer service. 

  • If the manager is a top performer, acknowledging that in the results table can motivate them to remain one, especially if they see where exactly others behind them stand (hopefully close). 
     
  • But it really helps if you need to fire a manager. Where the ranking reveal is most helpful is when it comes time to dismiss a manager, which members noted can be a hard thing to do.
    • “If you’ve shown that the manager is underperforming over multiple performance review meetings, they kind of know it’s coming, and it makes it much easier to relay the news,” as one member noted. Plus, you have given them the opportunity to improve.

Track the information to share. While portfolio performance on total return and other hard data can be obtained via Bloomberg or Clearwater, members suggested using a customer relationship management (CRM) tool to track various, soft scorecard criteria, such as the number of visits with the asset manager. Sharing the information in the review meeting also forces treasury to justify and add context to the results. 

  • A potential point of contention is if the manager was told not to invest in a certain name or names and that ends up affecting its result. Is it really fair to assess a manager’s performance if they are not given free rein within the mandate?

Beyond this stable. While this discussion applies to scorecards for external asset managers, the advice also serves for scoring any treasury relationship. So why not create scorecards for all those relationships—and then share the horse race results with everyone involved?

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The Double Whammy Threatening Corporate Pension Plans

Low rates may reduce asset returns and lower discount rates, hiking liabilities.

Lower interest rates may be great if you’re tapping the bond market. Not so much if you’re trying to fund a corporate pension plan. 

Low rates may reduce asset returns and lower discount rates, hiking liabilities.

Lower interest rates may be great if you’re tapping the bond market. Not so much if you’re trying to fund a corporate pension plan. 

Returns on assets fall. William Warlick at Fitch Ratings said the sudden dive in interest rates in July and August—10-year Treasuries fell below 2%, and by early September yielded about 1.5%—potentially creates a “double whammy.”

The first whammy is that yields remaining low for an extended period will eventually reduce returns on pension funds’ fixed-income portfolios, which have been growing as pension-fund managers shifted away from riskier equities. 

Liabilities grow. As the return on assets shrinks, pension-fund liabilities are likely to increase, also potentially widening plan funding gaps. When treasury and high-grade corporate bond yields fall, plan administrators’ discount rates fall along with them, so a given set of future cash flows related to plan-participant liabilities is discounted back at a lower interest rate. That’s the second whammy. 

“That means the present value of the liabilities is higher and the pension’s funded status could worsen,” Warlick said. “So the pension fund could either have a deficiency of asset returns or higher liabilities than expected.”

Good behavior lowers risk. Fortunately, lower tax rates and persistently solid investment returns have enabled most companies with large pension plans to significantly improve their funded status. The 150 companies Fitch reviews saw their median funded status improve to 85% from 81% between 2014 and 2018. 

The problem: “We could be entering an environment where, despite a recent period of voluntary contributions, required contribution could go up,” Mr. Warlick said. 

NeuGroup and BNY Mellon are hosting a Pensions & Benefit Roundtable in New York on October 2 for treasurers with oversight of pensions. If you would like to participate, please contact Chris Riordan at criordan@neugroup.com.

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SocGen: You Have Less Floating-Rate Debt Than You Think

One big eye-opener for many attendees at NeuGroup’s Tech20 2019 first-half meeting was sponsor Societe Generale’s suggestion that their floating-rate debt capacity was higher than they (most likely) currently thought it was—provided they hedge their FX, that is.

Why? Because, according to this view, the FX hedge program reduces one’s net floating-debt exposure. In addition, if you agree that a recession is coming, rates will be staying put or going lower, making floating debt even cheaper.

One big eye-opener for many attendees at NeuGroup’s Tech20 2019 first-half meeting was sponsor Societe Generale’s suggestion that their floating-rate debt capacity was higher than they (most likely) currently thought it was—provided they hedge their FX, that is.

Why? Because, according to this view, the FX hedge program reduces one’s net floating-debt exposure. In addition, if you agree that a recession is coming, rates will be staying put or going lower, making floating debt even cheaper.

It pays to favor floating-rate exposure to interest rates now. Treasurers often fight against the bias that locking in fixed-rate exposure to interest rates is best. In fact, most studies show that relying on floating-rate debt is cheaper. Backtesting by SocGen showed that since 1990, a 10-year floating strategy was cheaper 100% of the time, with average savings of around 3% vs. a fixed-rate strategy.

Now it may be even better. In the US, for instance, an anticipated rising rate environment was suddenly paused by the Fed, and monetary policy indicators increasingly suggest that not only are we unlikely to see interest rates normalize any time soon, but they may well be headed down again. When the yield curve flattens or inverts, moreover, as it has, the timing to increase floating-rate exposure to ride interest rates lower cannot be better.

Include FX hedging program in offsets. Disciplined asset-liability management seeks to offset floating-rate liability exposure with floating-rate assets. Depending on a firm’s risk profile and appetite, the offsets can match completely, or the floating-rate assets can be seen as a means to increase floating-rate liability further. This is where Societe Generale’s insight caught our members’ attention, namely that the FX hedging programs—factoring the cost of hedging long cash-flow and balance-sheet exposures—for many US firms represent a floating-rate liability offset.

How it works: Decreasing USD rates increase cost of hedging. Seen from the perspective of FX swap points that comprise the forward rates of foreign exchange, a US firm paying very low EUR rates and receiving higher USD rates (that could be trending lower) represents an offset to floating-rate debt exposure. The reduction in carry gain (e.g., on EUR) or increase in carry cost (on MXN, for example), from a 100bps decrease in USD rates increases the ALM capacity for floating-rate debt exposure.

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A Master Cash-Flow Model for All Firms

Efficient capital usage and building a cash culture to accurately forecast cash flow starts with building a model of how cash flows through your company.

With so much focus these days on transforming revenue models, finance teams also need to encourage their companies to build a model to better understand and improve visibility of how cash flows through the business—now and as it is transformed.

At a NeuGroup meeting last May, an AT member from a technology company shared her effort to model her firm’s cash flow. 

Why it matters. 

Efficient capital usage and building a cash culture to accurately forecast cash flow starts with building a model of how cash flows through your company.

With so much focus these days on transforming revenue models, finance teams also need to encourage their companies to build a model to better understand and improve visibility of how cash flows through the business—now and as it is transformed.

At a NeuGroup meeting last May, an AT member from a technology company shared her effort to model her firm’s cash flow. 

Why it matters. Here are three key reasons to build a master cash-flow model:

  1. A company’s long-term cash-flow model forms the basis of its capital structure and supports the capital allocation and deployment planning process—i.e., efficient use of capital requires it. 
     
  2. A model of firm cash flows can be a key educational tool to bolster the cash culture, shifting perspective from how earnings happen to free cash flow and how cash comes in and goes out. This perspective shift is exponentially enhanced if a firm discloses and provides guidance on cash flow to shareholders.
     
  3. A master model can streamline and standardize existing cash forecasting methodologies to improve cash forecasting. 

What to ask for. When our member AT queried different departments about whether and what cash-flow models they used, she asked what each did (its objective), how they sourced data, and to whom and when their output was sent to the executive suite and board. For example:

  • FP&A’s model was used to report the company’s P&L and cash position to the CFO; 
     
  • Corporate strategy employed a long-range forecast to understand the impact of M&A and other strategic moves. 

A need to bring it all together. “So, the company had many forecast models, but they often disagreed with each other, frustrating management,” the AT said. “Now corporate treasury has ownership and can reconcile a lot of these models.”

What to deliver? The AT asked each of her firm’s cash-flow-model users about the level of granularity they expect from a central cash model, including the forecast’s range, whether they just need it at the parent-company level or stepping down to the regional or legal-entity level, and how often the cash-flow model should be updated.

  • The result should not be a treasury model but a corporate model that can serve multiple constituencies and materially increase senior management’s confidence in its use to make important decisions.

Key Insight: There are too many pain points for treasury to establish a master cash-flow model for every part of a company on its own. Therefore, treasury, or whoever builds the master model, must share ownership of the inputs and outputs across corporate functions and levels—e.g., with FP&A—or incorporate these functions into a master cash operations function—expanding the scope of treasury in conjunction with FP&A, A/R and A/P. Shared responsibility for the model helps everyone share and learn about cash to build a cash culture.

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A SOFR Shortcoming: Where’s the Spread?

One difference between Libor and SOFR is the lack of a credit component.

The move to a SOFR rate benchmark without a credit component was described at recent NeuGroup meeting of bank treasurers as an assault on the regional banking business in a friendly, yet heated discussion with the panel of Libor-transition experts led by Tom Wipf, the Alternative Reference Rates Committee (ARRC) chair.

The conclusion emerged that overlaying a credit component on SOFR was not in the ARRC mandate, so regional banks should propose their own and advocate for a credit component overlay solution that would mitigate the issue of borrowers’ arbitration of a risk-free SOFR rate in the next crisis.

One difference between Libor and SOFR is the lack of a credit component.

The move to a SOFR rate benchmark without a credit component was described at recent NeuGroup meeting of bank treasurers as an assault on the regional banking business in a friendly, yet heated discussion with the panel of Libor-transition experts led by Tom Wipf, the Alternative Reference Rates Committee (ARRC) chair.

The conclusion emerged that overlaying a credit component on SOFR was not in the ARRC mandate, so regional banks should propose their own and advocate for a credit component overlay solution that would mitigate the issue of borrowers’ arbitration of a risk-free SOFR rate in the next crisis.

What the ARRC says. According to the ARRC recommendation, Libor and SOFR are different rates and thus the transition from Libor to SOFR will require a spread adjustment to
make the rate levels more comparable. As noted above, Libor is produced in various tenors and SOFR is currently only an overnight rate.

Another critical difference between Libor and SOFR is that Libor is based on unsecured transactions and is intended to include the price of bank credit risk. SOFR, on the other hand, is a near risk-free rate that does not include any bank credit component, as the transactions underpinning SOFR are fully secured by US Treasuries.

Looking ahead. A working group was formed at the meeting to coordinate with other working groups out there and explore proposals being surfaced to use TRACE data on either bank or customer borrowing rates to build a credit spread on top of SOFR. They might also turn to the USD ICE Bank Yield Index or the AFX Ameribor for ideas. (See A New ‘Bor on the Block)

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What Should Your Working Capital Be Used For?

Insights on how young, fast-growing companies should use their cash.

How is short-term cash funded? Treasurers at high-growth tech companies at a recent NeuGroup meeting discussed funding working capital and whether a company should target cash and short-term investment balances to cover anticipated working capital needs or pay for committed short-term bank credit facilities to cover seasonal or unexpected short-term funding requirements.

Part of this is communicating to management and shareholders that committed facilities have their own value as opposed to sitting on unproductive cash.

Insights on how young, fast-growing companies should use their cash.

How is short-term cash funded? Treasurers at high-growth tech companies at a recent NeuGroup meeting discussed funding working capital and whether a company should target cash and short-term investment balances to cover anticipated working capital needs or pay for committed short-term bank credit facilities to cover seasonal or unexpected short-term funding requirements.

Part of this is communicating to management and shareholders that committed facilities have their own value as opposed to sitting on unproductive cash.

Payables-receivables magic. Another opportunity the group identified was that increasing payables terms is just as valuable as decreasing receivables terms. Management often focuses on receivables given their important relationship to revenue, but overlooks the payables side of the equation. But cash flow is cash flow, whether it comes from the receivables or payables side of the ledger.

Growth and bank partners. Confronting the challenges of capital structure and working capital requires the right partners on the bank side. As a company grows, is its bank partner booting it out of its current group and into another? At different stages of growth, how do you know you have the right partners and how does treasury get a seat at the table?

This emphasizes the need for treasury to articulate what services it requires from the banks: global cash management infrastructure and the ability to syndicate a credit facility and provide access to capital markets, debt or equity.

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The Art of Managing Bank Expectations

How one treasurer gives banks in his revolver a share-of-wallet reality check.  Banks that agree to commit capital to a multinational’s revolving credit facility expect treasury to reward them with other, more lucrative work, such as bond underwriting. So treasurers have to deal with complaints when some bankers, inevitably, are not satisfied with their share of the company’s wallet. Ward off the whining. One large-cap treasurer told members at a recent NeuGroup meeting that his method for managing banker dissatisfaction around…

How one treasurer gives banks in his revolver a share-of-wallet reality check. 

Banks that agree to commit capital to a multinational’s revolving credit facility expect treasury to reward them with other, more lucrative work, such as bond underwriting. So treasurers have to deal with complaints when some bankers, inevitably, are not satisfied with their share of the company’s wallet.

Ward off the whining. One large-cap treasurer told members at a recent NeuGroup meeting that his method for managing banker dissatisfaction around share-of-wallet issues is to clearly communicate to each bank what they can—and cannot—expect from his company in terms of banking services.

Five tiers, clear lines. The first two tiers of this member’s five-tier revolver consist of banks that have made the largest capital commitment to the credit facility.

The banks in these tiers can expect to be named active or passive book runners in any of the company’s bond deals and play leading roles in any M&A transactions. They also would conduct interest-rate hedging transactions.

Tiers three, four and five. Banks in the third tier may be named senior co-managers or passive book runners in a capital markets transaction. Banks in the fourth tier might play a role in a bond deal depending on the size of the transaction.

Tier five banks, which commit the least to the revolver, underwrite letters of credit and may be used for FX hedging and cash investments.

The bottom line. The treasurer says the benefit of being explicit about what each bank can expect is that it allows each bank to run its model and get an accurate picture of what it will likely make over the next five years.To help treasurers figure out what banks expect to earn, check out How Much Money Banks Expect to Make to Be in Your Credit Facility.

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Does AI Mean Our Labor Days Are Over?

Founder’s Edition, by Joseph Neu

How finance leaders can keep their teams relevant as artificial intelligence transforms the world of work.

Jack Ma and Elon Musk created buzz last week debating at the World Artificial Intelligence Conference in Shanghai. And with Labor Day now behind us, this is a good time to think about how AI will change the work done by finance professionals.  

Founder’s Edition, by Joseph Neu

How finance leaders can keep their teams relevant as artificial intelligence transforms the world of work.

Jack Ma and Elon Musk created buzz last week debating at the World Artificial Intelligence Conference in Shanghai. And with Labor Day now behind us, this is a good time to think about how AI will change the work done by finance professionals.  

On the plus side, Mr. Ma, the Alibaba chairman and co-founder, claims AI will create more personal time:

  • A 12-hour work week. With AI, people should work three days a week, four hours a day, according to Mr. Ma. “I think that because of artificial intelligence, people will have more time to enjoy being human beings,” he said. 

The danger, says Tesla and SpaceX CEO Elon Musk, is that AI may have no need for us:

  • Smarter than humans. Mr. Musk said that the biggest problem with AI is that humans will not be able to keep up. “I think generally people underestimate the capability of AI – they sort of think it’s a smart human,” he said “But it’s going to be much more than that. It will be much smarter than the smartest human.”  

How quickly AI is taking over the finance function will be a topic for NeuGroup meetings this fall, as we examine   the future of finance talent and the role of AI in it. 

To help prepare, I turned to “Exponential Organizations,” a best-selling book by Salim Ismail, the founding executive director of Singularity University and co-founder and chairman of OpenExO, which connects professionals with organizations seeking exponential growth. He argues that companies that adopt certain key attributes will tap digitalization to grow their businesses exponentially, much like Moore’s Law drove microchips. 

  • AI accounting and transaction management. Mr. Salim says AI will influence accounting and transaction activities to include automatic AP and AR, with software-enabling automatic reminders and payment, automatic tax management, and AI watching for errant behaviors in transaction flows.
     
  • Everything is a transaction. But AI will not stay in the back office: “Note that pretty much everything in the modern world is a transaction, be it communications, social agreements, and, not least, commerce.”

So what will be left for humans to do? 

  • Humans are needed for less logical, human pursuits.  As Jack Ma emphasized, AI is unsurpassable at things that have a logic to them, but humans may be needed for the things that don’t. Interacting with other people successfully (lovingly) is something that is often irrational and where we still work best. 

My thinking: If AI and other machine automation will give us more time to become more human, then we also will have more time to interact with one another and learn to do it better. As AI takes over more transactions, finance leaders should encourage their teams to engage in more human interactions and build skills based on what they learn in those exchanges—to ensure finance supports a broader human purpose. With that in mind, even as AI’s power grows, our work at NeuGroup—thankfully—has a future. 

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Trying to Make Sense of Bank Fees

The challenges of comparing fees when banks don’t use the same terms to describe similar services.

The problem for treasury teams at multinational corporations is not that they have to pay bank fees. It’s that they often don’t have enough visibility to compare those fees among banks or know what exactly they’re paying for or exactly how much something costs. GCBG members addressed these issues and discussed solutions with representatives of Greenwich Associates and Redbridge Debt & Treasury Advisory. Here are some highlights:

The challenges of comparing fees when banks don’t use the same terms to describe similar services.

The problem for treasury teams at multinational corporations is not that they have to pay bank fees. It’s that they often don’t have enough visibility to compare those fees among banks or know what exactly they’re paying for or exactly how much something costs. GCBG members addressed these issues and discussed solutions with representatives of Greenwich Associates and Redbridge Debt & Treasury Advisory. Here are some highlights:

The bank fee challenge. One member whose treasury has relationships with about 15 banks said, “We want to get our arms around” the fees they’re paying and to find out if “we are using all the things that we’re paying for.” Her company is considering using bank fee analysis services offered by Redbridge, NDepth (Treasury Strategies/Novantas) or Weiland BRMedge (Fiserv).

The Greenwich presentation included these comments from respondents to a survey about the biggest challenges with banks’ cash management fees: 

  • “One of the biggest challenges is understanding what a particular service represents on the analysis statement and then being able to compare that with a similar type service that you might be paying a fee for at another bank.”
     
  • “The biggest challenge is each bank seems to have different terms for different types of fees and weeding through an analysis statement to understand what exactly is being charged and how often it’s being used and if we’re using it.” 

The problem with AFP service codes. The problem with using codes from the Association of Financial Professionals (AFP) to compare fees among banks is that, as the Redbridge presenter said, “No two banks call an apple the same thing.” In other words, each bank uses a different description for services that are essentially equivalent. For example: 

  • Account maintenance
  • Monthly fee
  • Maintenance
  • Maintenance charge 

About three-quarters of the participants indicated they have used AFP codes, which the presenter said can be both a blessing and a curse. “The job of assigning standardized AFP codes to bank services usually falls to someone within the bank or is left to the practitioner to figure out,” he said. They’re “exactly the wrong people” to ensure the proper use of one standardized set of codes, he added. And this state of affairs means there is no way to answer key questions that are part of a bank fee audit, such as: 

  • Which of my banks is giving me the best price on these services?
  • How much is my company spending on maintenance fees as a whole?
  • Which countries are the most expensive for me to bank in? 

An accreditation solution. The Redbridge representative said the only true solution to the code problem is AFP’s creation of an accreditation service for banks that use standardized service identification codes. Redbridge is a partner with the AFP and is the designated facilitator of the AFP Service Code Accredited Provider program. Banks provide a list of all their billable services (current mappings, definitions of service, unit of measure, etc.) and AFP audits and assign US and Global AFP Codes to each service ID by geographical region.

The flat fee solution. One member of the group offered a different approach—paying banks a flat fee that covers everything for the year. The former banker said he’d done that when working in treasury and said at the end of three years an accountant is likely to ask if you overpaid. The Redbridge presenter said he’s seen examples of flat fee models that work.

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The Future of Treasury and Banking is APIs

Deutsche Bank explains what treasurers should know about APIs.

Even treasury professionals who know that API stands for application programming interface and that so-called open APIs have been touted as the future of payment technology may not really understand what an API is or why it matters for treasurers and their bankers. So a presentation by Deutsche Bank at NeuGroup’s Global Cash & Banking Group (GCBG) first-half meeting gave members both a refresher course and a deeper dive into APIs and why they should care about them.

Deutsche Bank explains what treasurers should know about APIs.

Even treasury professionals who know that API stands for application programming interface and that so-called open APIs have been touted as the future of payment technology may not really understand what an API is or why it matters for treasurers and their bankers. So a presentation by Deutsche Bank at NeuGroup’s Global Cash & Banking Group (GCBG) first-half meeting gave members both a refresher course and a deeper dive into APIs and why they should care about them.

Mega messengers. APIs enable one system to connect to another, acting like messengers, looping requests to one system and responses back to the originator. In many cases, APIs are being used to transmit information to and from bank portals. Deutsche Bank expects more than three-quarters of banks will have invested in API or open banking initiatives this year, pushing this technology further into the cash operations space.

Timing is ripe for treasury applications. Yes, APIs have been around for what seems like forever. But new regulations, better technology and a competitive landscape have all advanced the cause of using APIs to create faster, more efficient customer experiences. For treasury, this means more real-time payments and faster reconciliations. Additional benefits include payment tracking, push payments and “requests-to-pay,” various risk management features (i.e., counterparty verification and KYC data) and alternative payment methods (i.e., paying into a “wallet”).

Interoperability with SAP. The presenter said Deutsche Bank is working with SAP to create an app so services offered by the bank can be plugged into a corporate’s ERP/TMS. Apps are downloaded from a marketplace and installed on the ERP or made accessible from the ERP through the cloud. That lets clients work with Deutsche Bank directly within the ERP, allowing them to, for example, select invoices, pay automatically on the due date and track all payment flows for these invoices.

What’s next? One member indicated that SWIFT already uses APIs, so it feels as if she’s moving backwards if she sets up separate APIs with each of her banks. Deutsche Bank’s presenter was quick to point out that the flip side is that using bank APIs allows for faster, real-time communication across the board for better cash visibility. He stressed that BAI payment files will not change, just the communication surrounding the initiation and completion of payment.

Bye-bye bank portals? One member asked if Deutsche Bank saw the use of APIs eventually replacing direct use of banking portals and was, perhaps surprisingly, answered with a “yes!” The happy prospect of a possible future without bank portals ranked high on more than one member’s key takeaways from the meeting. 

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Bloomberg Exits KYC and the Market Moves On

Bloomberg Entity Exchange is closing up shop soon, but there are plenty of players out there. Bloomberg confirmed in early April that it plans to shut down Entity Exchange, a know-your-customer (KYC) solution that was supported by Citibank and adopted by multinational corporations including Coca-Cola. Industry insiders say an internal management change led to a review of Bloomberg’s product portfolio, with Entity Exchange and the company’s sell-side execution and order management solutions businesses getting cut. Bloomberg, they say, was looking…

Bloomberg Entity Exchange is closing up shop soon, but there are plenty of players out there.

Bloomberg confirmed in early April that it plans to shut down Entity Exchange, a know-your-customer (KYC) solution that was supported by Citibank and adopted by multinational corporations including Coca-Cola.

Industry insiders say an internal management change led to a review of Bloomberg’s product portfolio, with Entity Exchange and the company’s sell-side execution and order management solutions businesses getting cut. Bloomberg, they say, was looking to focus on its core offerings. A Bloomberg spokesperson would only say that “the company’s intention is to exit its KYC business.”

But a look at the current state of the AML/KYC sector (AML being anti-money laundering) shows that at least for KYC, Bloomberg was up against stiff competition and facing an uphill battle just to get into the market. Large, established players, lots of new technologies being adopted, and looming industry disruptors likely forced Bloomberg to conclude it was better to put the resources toward more profitable business lines.

REFINITIV LEADS
The current size of the AML/KYC market is about $750 million and growing, according Burton-Taylor, an international consulting firm. The market includes not just AML/KYC, but also services relating to financial crime and compliance activities. And it is “a major area for budget increases,” with estimated global spending projected to grow 18.3% in 2018, Burton-Taylor says, generating an estimated five-year compound annual growth rate of 17.5%.

Refinitiv’s AML/KYC solution, formerly a Thomson Reuters product, leads the industry with over a quarter market share, with Dow Jones, LexisNexis, Moody’s Analytics’ Bureau Van Dijk, Regulatory DataCorp and a handful of smaller players making up a large part of the rest of the market. Burton-Taylor says it considers Refinitiv “to be the largest provider of AML/KYC data and information in the world.”

Meanwhile, Bloomberg’s planned departure has intensified competition among other companies scrambling for market share.

Burton-Taylor reports that “M&A activity and in-house development” have had a big impact on the market in the last decade as providers look to “meet existing and new client needs with advanced technology and granular data.” This has meant a “new wave of technology-savvy market entrants is coming forward to supplement, and challenge, the offerings of more established, data-centric suppliers.”

Bloomberg was part of the smaller group of tech-savvy entrants, which includes info4c, Acuris Risk Intelligence, Arachnys, Opus, ComplyAdvantage, NominoData, and Kompli-Global. Also, SWIFT, the international payments network, said recently that beginning in Q4 2019, all 2,000 SWIFT-connected corporates will be able to join its KYC Registry and use it “to upload, maintain and share their KYC information with their banks.” All of these companies, both established and newcomers, bring different expertise to different areas of AML/KYC.

The established players have vast searchable databases while the newcomers offer innovative technology.

BLOCKCHAIN
Among the players hoping to gain momentum from Bloomberg’s departure are companies touting the benefits of solutions that don’t depend on a centralized “utility,” or third party that stands between a bank and a corporate client. Blockchain is the answer to solving the problem, they argue. “I strongly believe this is the moment for decentralized KYC solutions,” says Gene Vayngrib, CEO of Tradle, which has developed a blockchain-based KYC solution. “In addition to not having a central store, Tradle leaves the data in the hands of the rightful owners, the treasurers,” he said.

Another company that is trying to gain a foothold, Aptiv.IO, is using blockchain to create what it calls company “trust vaults that allow companies to distribute their private information on their terms.”

With a trust vault, “You decide how you want to communicate with the outside world,” says CEO Guy Mounier. “It’s ‘privacy by design’ and uses zero trust architecture,” he says. Zero trust architecture works by employing a network-centric data security strategy, which in turn provides specific access only to those who need it. So if a company is giving out sensitive information through blockchain, it can better control who has access to that data.

Although blockchain can be considered a disruptor of the current model of centralized data, “This is not replacing anything,” Mr. Mounier says. “It can fit into what you have and you can map out where the data goes. It’s data enrichment as a data service.” He adds that data can be auto-refreshed as people, data or situations change.

NOT JUST KNOWING YOUR CUSTOMER
While they are known as AML/KYC providers, it goes beyond that. Many companies also offer continuous monitoring of the web, the dark web and other so-called “darknets” like The Onion Routing project, Tor or Invisible Internet Project, for any negative news or mentions of a company or the sale of IP or customer data.

“Companies don’t just want these static databases that just sit there,” says Jennifer Milton, an analyst at Burton-Taylor and author of the firm’s research on AML/KYC. “They want dynamic databases that can constantly search the web and the dark web.” She adds that machine learning is helping shape this kind of technology, where context can help detect references to companies even if the names are spelled incorrectly or hidden in some way.

THE LEGACY OF ENTITY EXCHANGE?
The end of Bloomberg Entity Exchange doesn’t mean the end of the influence it may have on the market. Several competitors say the company helped shine a light on KYC’s importance. Prior to the last couple of years, companies were reluctant to invest significantly in a cost center like compliance. “But now they are forced to spend,” says Jennifer Milton, an analyst at Burton-Taylor. “Who are you dealing with and how do you know them are important questions that companies can run into trouble with if they don’t have the answers; if there’s not an audit trail of transactions.”

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The Five Cash Management Initiatives Treasurers Should Consider

When it comes to cash management, treasurers must keep their focus on ways to make it more efficient and cost effective.

The year 2014 has been one focused on efficiency and innovation as treasurers consider outside-the-box strategies for unlocking working capital and improving the tactical aspects of treasury. Major initiatives including SEPA and the internationalization of the renminbi (RMB) have proven to be catalysts for greater global change both from a strategic and practical treasury perspective.

When it comes to cash management, treasurers must keep their focus on ways to make it more efficient and cost effective.

Editor’s note: This article was originally posted on iTreasurer.com on October 09, 2014.

The year 2014 has been one focused on efficiency and innovation as treasurers consider outside-the-box strategies for unlocking working capital and improving the tactical aspects of treasury. Major initiatives including SEPA and the internationalization of the renminbi (RMB) have proven to be catalysts for greater global change both from a strategic and practical treasury perspective.

Looking ahead to 2015, structural rationalization is the major topic as treasurers continue to review all aspects of their global treasury strategy to ensure the most efficient, most cost-effective structure possible.

“Rationalization is still a big theme,” says Martin Runow, Head of Cash Management Corporates Americas, Global Transaction Banking, Deutsche Bank. “It is one of those areas everyone’s looking at; how to become more efficient and get more control.”

So where should treasurers spend their time and resources in 2015? What projects will provide the greatest value? According to Mr. Runow and colleague, Arthur Brieske, Regional Head of Trade Finance and Cash Management Corporates Global Solutions Americas, Global Transaction Banking, Deutsche Bank, the following five initiatives should be part of treasurers’ overall budget and resource planning process for 2015.

  • Going Beyond SEPA
  • Global Account Rationalization
  • In-House Bank Structures
  • Maximizing Excess Cash
  • RMB Internationalization

GOING BEYOND SEPA
Initially rolled out as an approach for risk mitigation for commercial payment transactions in euro, SEPA adopters have found that SEPA, or the Single Euro Payments Area, provides a more efficient way to transfer and collect funds across borders without managing all the different legal payment frameworks of each country.

SEPA has allowed corporate treasurers to consolidate accounts and improve process efficiencies with the use of the new ISO20022 XML format to ensure the highest level of standardization across their SWIFT network. This format provides consistency in the financial messaging exchange between counterparties and is expected to gain greater efficiencies going forward. According to Mr. Runow the launch of SEPA has driven a lot of efficiencies that most corporate treasurers have been seeking for years. “It has taken ten years to get it up and running,” he says, “but we are there now and there is a lot of good to come of it.”

Many companies have used SEPA as an opportunity to consolidate accounts, allowing for simplification and optimization of structures including centralized accounts payable and accounts receivable, cash pooling and in-house bank structures.

But despite the many bright spots of SEPA, “reconciliation can still be a challenge,” says Mr. Brieske. Seeing a need for a single account with a single currency and a single infrastructure, Mr. Brieske says Deutsche Bank created a solution called Accounts Receivable Manager (ARM) for SEPA, which, according to Deutsche Bank is an automated payer identification solution that enables auto-reconciliation of incoming SEPA credit transfers and reduces the need to maintain multiple bank accounts for separate lines of businesses.

In fact, SEPA has been such a force for change that Deutsche Bank is rolling out this ARM solution so that companies can use it outside of the eurozone. “This model is going to expand beyond SEPA, in India for example, where banking can be complicated for companies,” Mr. Brieske says.

There are still “many more benefits to be had” with SEPA, Mr. Runow notes, but as of now, “a lot of large companies are reaping the benefits of their investment in SEPA and a lot of people are getting true value out of this beyond Europe.”

GLOBAL ACCOUNT RATIONALIZATION
As noted above, the SEPA initiative has acted as the catalyst for other global projects, with high priority placed on account rationalization. By reducing accounts across Europe, many large US multinational corporations are realizing significant savings in both hard- and soft-dollar costs. “In the SEPA environment, all corporates need is one account for payments and one account for receivables across the SEPA landscape,” says Mr. Brieske.

The downstream effect of reducing the number of physical bank accounts accentuates the ongoing challenge of managing banking relationships around the globe. Issues like overall cost, allocation of bank wallet, management of counterparty risk, and supporting the needs of the operating business, are all equally important when deciding which bank provider receives what level of business within your organization.

Keeping every bank happy is a tough job, if not impossible. However, being able to spread the wallet across fewer banks is one of the positive by-products of a bank consolidation.

IN-HOUSE BANK STRUCTURES
Treasurers have continued to find ways to alleviate the growing cash balances that have become strategically more important to their organizations as they face increased pressure to refine their cash management initiatives to provide more efficient movement of these cash balances.

Based on recent NeuGroup peer group survey results, nearly 70 percent of respondents have up to 50 percent of their total cash “trapped,” with everyone putting a focus on the ability to use these trapped balances when local entities require funding. Structures like in-house banks (IHBs) are becoming more commonplace as organizations take the next step to further enhance their global liquidity models. Many times these structures can bring a significant amount of processing efficiency and can help unlock trapped cash by allowing the funds to be loaned out across participating subsidiaries, thus reducing trapped cash.

Considerations for establishing an IHB start with choosing a favorable location, along with important tax structure considerations, local regulations and withholding tax impacts. These primary areas of focus should be defined prior to kicking off an IHB project.

The practical considerations for the evolution of the IHB can be directly attributed to global expansion and increased revenue mix overseas in addition to complexities related to time zones, language, growth of regional shared services and decision execution.

Traditionally, IHBs have been set up to alleviate the voluminous amount of intercompany transactions between legal entities and to comply with tax policies. The natural evolution of these structures then focused on cross-entity liquidity management, while maintaining clear segregation to avoid commingling of funds. Next, was the consolidation of cash balances on a regional level with centralized oversight using tools like notional pools to add efficiency. Structures continued to evolve to include centralized cash forecasting and foreign exchange management with the final phase of development being one of global consolidation with one global account for pay on-behalf-of (POBO) and one for collections on-behalf-of (COBO) across all business units.

The Dodd-Frank Act and Basel III regulations have placed greater scrutiny on banks and have mandated stricter guidelines on the amount of capital a bank must hold for certain types of transaction activity. As a result of this and other regulations focused on anti-money-laundering, banks have placed stricter compliance requirements on their KYC process.

Mr. Brieske says, “The challenges IHBs will confront are likely to stem from the challenges banks are facing with increased regulation. So indirectly, regulations will impact them, but it is the banks that will be responsible for the regulations.”

Mr. Runow adds that those MNCs that establish an IHB structure will need to ensure everything is tightly buttoned-up and that reconciliations and account reporting are thorough and diligent. “There’s no room for sloppiness, no cutting corners,” he says.

RMB INTERNATIONALIZATION
As a result of the ongoing RMB regulatory changes, there has been a significant improvement in the ease of making cross-border RMB payments via China. “Chinese regulators have certainly shown that they have a strong interest in RMB payments going global by making it easier to transact in RMB,” says Mr. Runow. But the RMB is still a fairly new currency on the international scene.

He acknowledges that “flows are going through the roof;” however, they are still modest compared to the US dollar or euro.” Despite this, Mr. Runow and Mr. Brieske expects this will change in the next few years.

The RMB can now be integrated as part of a corporation’s overall liquidity management strategies with pooling of RMB and cross-border RMB lending becoming commonplace. On February 20, 2014, the People’s Bank of China announced its support of the expansion of RMB cross-border usage in the China (Shanghai) Free Trade Zone (Shanghai FTZ), which now allows for the following activities:

  • Simplified document check requirements for current and direct investments in the Shanghai FTZ
  • Cross-border borrowing for corporates and non-bank financial institutions registered in the Shanghai FTZ
  • Two-way RMB cross-border cash pooling
  • Cross-border RMB POBO/COBO

The RMB internationalization project has begun to pick up steam over the second half of 2014, with many global MNCs looking to launch new cash management strategies in Asia. Those who are taking the time to create these new structures are able to unlock China’s previously “trapped cash” challenge, and optimize their cash held in this part of the world where many opportunities lie for them.

According to Mr. Brieske, the loosening of these regulations will eventually have a downstream effect moving from very large corporations to small local businesses. “As deregulation happens, you will not have to wait to see the pent up demand to kick in — it is already happening.” The result will be a rapid increase in payment volumes, which is likely to result in the RMB moving to the top five SWIFT currencies within the next several years.

MAXIMIZING EXCESS CASH
According to Mr. Runow, most MNCs today are still very risk-averse and focused on principal preservation. “The dilemma is corporates are looking for yield but there is little appetite to go into risky assets,” he says. Mr. Runow adds that from what he has seen investment policies actually have become “stricter rather than more lenient.”

This has been supported by feedback from recent NeuGroup peer group meetings. With the continuation of low yields, it is little wonder that cash portfolio asset allocations are heavily weighted toward money market funds, US Treasuries and agency debt, corporate bonds above the single-A threshold and corporate commercial paper and certificates of deposit.

Mr. Runow says, “Corporates continue to be very strict and highly conservative, tending to seek return of invested money over return on investment.”

With the continuation of low rates expected through a good part of 2015, treasurers may be well served to consider implementing an IHB so that their growing levels of excess cash can work harder around the globe versus sitting in a very low-yielding investment asset.

LOOKING AHEAD
The tagline “less is more” has been the mantra for practitioners since the onset of the economic crisis and now well into the recovery; unfortunately, for most it looks like it will remain the mandate for some time to come. Therefore, treasurers will have to continue to work smarter when it comes to rationalizing structures, cutting expenses and most importantly, getting the company’s cash to safely work harder. They will also have to remain alert to new possibilities of maximizing cash where it is sometimes considered trapped. With this in mind, extra attention will have to be paid to the RMB and its continued growth and ease of use.

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Fintechs Transforming Supply Chain Finance

Fintech companies continue to streamline the buyer-supplier experience, eliminating age-old tensions and adding powerful new tools.

Multinational corporations (MNCs) face a myriad of challenges and arguably the most important one is staying competitive during periods of uncertainty and increasing regulation, as global interconnectedness continues.

Fintech companies continue to streamline the buyer-supplier experience, eliminating age-old tensions and adding powerful new tools.

Editor’s Note: This story originally ran on iTreasurer.com on December 19, 2016.

EXECUTIVE SUMMARY
Multinational corporations (MNCs) face a myriad of challenges and arguably the most important one is staying competitive during periods of uncertainty and increasing regulation, as global interconnectedness continues. In order to successfully navigate this uncertain environment, MNCs must develop sustainable working capital strategies and build cash positions that underpin these strategies, whether they are for expansion, M&A, dividends or buybacks.

One way they can succeed is through the company’s supply chain via supply chain finance (SCF). It is here where treasurers can take what was once a one dimensional program used to release working capital and can now implement a new sophisticated, multifaceted strategy to deploy flexible financing, optimize working capital and create competitive yield. Suppliers can gain access to low cost financing and both parties benefit with improved technology, program scalability and advances in automated invoicing and payment processing.

Yet despite these obvious benefits, MNCs have not rushed to implement such programs. Anecdotal evidence and survey data from The NeuGroup suggest many companies do not have structured supply chain finance programs, although many have some of the components. Many still cling to old and manual trade finance processes and practices, which have the potential of weakening their supply chains. Moreover, despite this becoming more of a cash and working capital play, treasurers in many cases are still not involved.

But with the growth of fintech, companies are beginning to listen. New players are changing how buyers and suppliers approach their supply chain. Leveraging technology, these fintech companies are alleviating the age old tensions between buyer and supplier, making it easier to capture SCF’s benefits by making it more efficient and more equitable for both sides. Buyers can pay when they want without putting their suppliers’ cash position at risk, and suppliers can choose to get paid earlier at a cost of financing that would otherwise not be available to them.

Fintechs also provide accumulated data to help companies streamline their supply chains and help both buyer and supplier select the most beneficial payment terms.

As buyers and suppliers get more comfortable with these programs, there will less money tied up in DSO and DPO. MNCs stand to lose out on billions of dollars in revenue trapped in their financial supply chain if they do not take action now.

UNLOCKING THE VALUE IN THE SUPPLY CHAIN
Today’s multinational corporations face no shortage of challenges when it comes to staying globally competitive. Since the financial crisis and prior, MNCs have faced uncertainty and with an ever evolving business climate, now more than ever, MNCs must maintain and protect their company’s financial position and manage working capital to support business operations.

As new ideas to improve working capital arise, treasurers are more than eager to listen. One area that treasurers have been focusing on over the last few years is unlocking value from the company’s supply chain via supply chain finance. The emergence of SCF began when large companies wanted to extend payment terms and needed an offset mechanism. This continued as these companies look to meet two objectives: first, becoming more commercially lean through releasing working capital and driving down costs and, two, offering affordable liquidity to their entire supply chain, recognizing the need to support them. Further, companies recognize that this responsibility must be managed internally versus banks to ensure healthier, stronger relationships with their suppliers.

New entrants to the supply chain finance world are enabling companies to maximize the value of their supply chains by utilizing a technology-led approach. These fintech companies have been showing multinational corporations that through technology, true program scalability can be reached and a tremendous financial opportunity can be uncovered from their supply chain. But beyond scalability and the financial benefits, these new entrants are also helping companies creates stronger and healthier supply chains by smoothing out tension that can exist between buyer and supplier.

THE BUYER-SUPPLIER DANCE
Historically, companies delayed payments to their suppliers as a strategy to extend DPO. According to a recent survey of The NeuGroup’s Assistant Treasurers Peer Group Large Cap, extending payment terms (82%) and accelerating collections (41%) were the most common approaches to improving working capital.

This was particularly true after the 2008 financial crisis when the term cash preservation was the leading mantra of many cash management programs. The treasurer’s duty then was to keep a healthy cash pile available for any possible merger, acquisition, or other downturn. Paying suppliers was one victim of this thinking, with payments going from 30 days to 45 days or in other cases, from 60 to 90 days.

“There is a centuries old friction between suppliers and buyers,” says Maex Ament, Cofounder and Chief Strategy Officer at Taulia, the financial supply chain company. “Suppliers want to get paid as early as possible, while buyers want to pay as late as possible.” A study conducted by Taulia last year showed that small and midsized business suppliers are waiting longer and longer to be paid after delivering goods. This trend has a big impact on operations because cash flow is one of the biggest concerns facing small and midsized businesses, Taulia noted in its study.

However, the “delay pay strategy” does not create a healthy environment in which the supply chain can operate, irrespective of the size of the supplier company. In fact, delaying payment to hold on to cash longer can negatively affect suppliers’ cash flow and puts them at risk of going out of business, resulting in unnecessary pressure on the supply chain.

Alleviating this pressure is one area where fintech companies have been making great strides by providing more affordable financing options to more suppliers. These supplier finance facilitators, along with companies and banks, are working together to help suppliers stay healthy while enabling companies to unlock the cash potential from their supply chains.

By taking the “delay” out of the equation, fintechs are creating a win-win situation for both suppliers and buyers. Fintechs are leveling the playing field so that more suppliers, including smaller businesses that were previously excluded, can now participate in these next generation supply chain finance programs, which historically only focused on the largest suppliers.

“We democratize access to supplier financing,” says Cedric Bru, Chief Executive Officer at Taulia. Through an innovative platform and technology that enables true scale, buyers can provide access to supplier financing products to their entire supply chain, “any supplier, regardless of size and regardless of spend. They can join our program, and do it unbelievably easily.”

CHANGE AGENTS
The true fintech revolution in supply chain finance began shortly after the 2008 financial crisis. The financial regulations that followed the crisis created an opportunity for fintechs to step in and help banks and businesses manage the rules and make compliance easier.

Mr. Ament noted that the financial crisis was an awakening and a catalyst for fintech growth. “Banks were made safer, which was good for the financial system, but bad for companies needing cash as it left a gap.” This resulted in making a highly regulated space—finance, banking, and insurance—“ripe for disruption.”

Fast forward to 2016 and fintech companies are transforming supply chains all over the world. Banks, having struggled under the burden of regulation for several years, which hampered their innovation efforts, have joined forces with fintechs.

This has led to companies, like Taulia, Ariba and C2FO, transforming the supply chain process, and facilitating transactions between buyers and their suppliers. By offering a wide array of automated products, like electronic invoicing, supplier financing and supplier self-services, they enable both the buyer and supplier to improve their working capital, improve their yields and lower their operating costs. This includes providing flexibility to when a buyer pays and a supplier gets paid. This benefits both sides, providing greater liquidity and less variability in the timing of payments.

Feedback from The NeuGroup peer group meetings as well as some research suggests this is the case. Members of several peer groups have said the main driver for implementing a supply chain finance program was working capital improvement.

In the Assistant Treasurers Group of 30 (AT30), while only a third of respondents have a supply chain finance program, nearly all of those respondents said the incentive was working capital improvement. And in a survey of members of The NeuGroup’s Assistant Treasurers’ Leadership Group (ATLG), most respondents cited extended payment terms (84%) as the main tool they used to maximize working capital; accelerating collections was the next most used at 41.2%.

One member of The NeuGroup’s Asia Treasurers’ Peer Group (ATPG) said using his company’s strong cash rich balance sheet to gain discounts on supplies was a better use of short term cash than investing in treasuries, money market funds, commercial paper or short term bonds. For this company, a US tech firm, early payment discounts translated into the positive business impact of improved yield on current idle cash, without taking on credit or counterparty risk. And for its suppliers, it was an alternative source of funds, which was cheaper, quicker and more reliable.

ONBOARDING
Another area where fintechs have made a big impact is in the onboarding process for suppliers joining a supply chain finance program. Not only have these buyers managed to offer access to more suppliers, they also made the process faster, easier, and more efficient. Often in traditional supplier programs, the onboarding process can be cumbersome because of the amount of paperwork and outdated manual processes. This requires an enormous amount of resources, such as people, time and money.

Because of these tedious processes, a legacy supply chain finance program sometimes can only onboard a buyer’s top 50 or 100 suppliers. Latest technology developments have made it possible for the onboarding process to be less than 90 seconds per supplier, eliminating manual processes. This enables companies to onboard thousands of suppliers in the same time it might take banks to onboard a few. For example, Vodafone, a Fortune Global 500 company and winner of the 2016 Supply Chain Finance Award, leveraged the Taulia platform to quickly ramp supplier adoption, leading to over 1,400 suppliers onboarded in just 9 months. Taulia’s platform is also agnostic with where the financing comes from; financing can come from banks, funds, pension funds or from the buyers themselves.

Fintechs have also greatly improved the buyer-supplier interface to make it easier to understand and navigate. Their intent has been to create a platform that can easily scale to thousands of suppliers and make it incredibly simple to use.

This gives suppliers true transparency fast: the ability to easily login and view all outstanding invoices immediately, their statuses, and options for early payments. “That was Taulia’s aim,” says Mr. Bru. “Suppliers can onboard to our platform within 90 seconds and be fully eligible to take early payments immediately.”

DATA ANALYTICS
Not only are fintechs transforming slow, manual processes to be faster and more efficient, they also have years of accumulated trade data. For companies like Taulia, this means they can go beyond its core supplier financing mandate and offer more predictive analytics and problem solving. This means enhancing its technology offerings by, for example, helping buyers streamline their list of suppliers and mapping out the best approach to their financial supply chain. Buyers are able to decide on “who, how and why” they might invite certain suppliers to a specific program.

For instance, in The NeuGroup’s Assistant Treasurers Group of Thirty (AT30), one member described how his company had to decide on the best way to pay a supplier. Buyers have many ways to pay suppliers depending on the type of product or service, the size and frequency of the transactions, or the type and size of the supplier. In some cases there may be concern that one payment method would be less favorable to a supplier than another method. In the AT30 member’s case, the company was worried that there would be exposure by putting some suppliers on a payment card program when there was a better SCF program available. The upshot is that suppliers need to be reviewed and carefully assigned the appropriate payment method, or perhaps even be given appropriate options. This is where analytics can help.

On Taulia’s platform, data can also provide companies with insights into the number of suppliers that might choose to opt in for automatic acceleration (e.g., all invoices, all the time with no need to request payments) versus manual acceleration (e.g., select invoices, one at a time) for early payment offers. And Taulia’s own research confirms that suppliers in most instances automatically accelerate more than 50% of early payments. This demonstrates the need for suppliers to access cash consistently.

MONEY LEFT ON THE TABLE
While companies and treasurers in particular are turning to technology to help them in a world where running lean departments is the norm, there is still not enough being done to extract value from the supply chain.

According to survey results from NeuGroup surveys, accounts payable balances remain a substantial component of the capital deployed for the companies, approaching almost 40% of the outstanding debt and almost 10% of total assets. On the receivables side, trade receivable balances also are a substantial component of the capital deployed, approaching 35% of the outstanding debt and almost 10% of total assets. So there is plenty of money there to justify the effort.

And with the help of fintech companies, setting up programs to extract value from the supply chain is getting a lot faster and more efficient. For buyers, that means increased DPO and the ability to redeploy capital into other more profitable areas of the business, cost reduction in the company’s financial supply chain and the ability to provide suppliers with a less costly form of financing to help reduce transaction costs and potentially negotiate a product discount.

On the supplier side, comfort levels are rising when it comes to participating in buyer programs, especially when they stand to profit or keep their balance sheets healthy. According to Factor Chain International, global factoring is over $2.3 trillion annually and still rising so suppliers are financing already. That means faster repayment and reduced DSO by discounting invoices due any time prior to maturity and vastly improved cash flow forecasting; it also equates to lower financing costs, which means access to higher levels of working capital financing.

As global multinational corporations continue to streamline working capital management to make every dollar work harder and more efficiently, the effort should include mastering and extracting value from the supply chain. In the end, benefits will continue to grow for all sides of global trade transactions.

RECOMMENDED NEXT STEPS
Four key steps to take in understanding whether SCF is something that you as a treasurer need to consider, and if so, how a fintech solution might help deliver the required goals and benefits sought:

  • Treasurers should seek to engage internally to understand the financial priorities. Is this centered around working capital management, yield, supply chain liquidity, or more?
  • Review what strategies and operations are already in place to deliver these goals—are they working? Engage with our key stakeholders to determine the wider business strategies focused on the supply chain—Procurement, Accounts Payable and Finance.
  • Evaluate the market to understand how/whether fintech may play a complementary role to enhance or kick-start programs.
  • Quantify potential projects through hard business cases.

While this is by no means a comprehensive project plan, it is designed as a simple check list to get thoughts and actions moving.

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Beware Zero-Based Floors

Chatham: Banks embedding zero-based floors in the fine-print on some floating debt.

With rates going negative around the world, banks are embedding zero-based floors into the floating-rate loans they provide, and while on the surface that seems like a plus, they can end up carrying a big price.

Chatham: Banks embedding zero-based floors in the fine-print on some floating debt.

With rates going negative around the world, banks are embedding zero-based floors into the floating-rate loans they provide, and while on the surface that seems like a plus, they can end up carrying a big price.

That was one of several insights on today’s uncertain financial markets that Kennett Square, PA-headquartered Chatham Financial provided in a recent market update titled. “Global uncertainty packs a local punch.”

Zero-based floors are valuable when interest rates are falling, because when they drop below zero, as they have across the Eurozone as well as in Japan, the borrower is obligated to pay the loan spread but zero interest on the floating rate component.

“On the surface, this seems like a pretty good deal. If rates go below zero, the borrower only pays its loan spread,” said Casey Irwin, a hedging consultant at Chatham, who conducted the recent webinar along with Amol Dhargalkar, managing director and head of Chatham’s global corporate sector.

Ms. Irwin noted that most banks “are not very upfront about” such floors effectively embedding the derivative into the company’s loan agreement, that the derivative is a sold floor, and that the floor can have a meaningful amount of value. “Unfortunately, clients discover the full value of these floors when they go to hedge these loans from floating to fixed,” Ms. Irwin said.

She added that in order to perfectly hedge a loan holding an embedded floor with a swap, the borrower must buy back the sold floor, and the cost of the floor is typically embedded back into the rate. Buying back the floor on a swap effectively locks in the interest rate at a static amount, Ms. Irwin said, adding that instead proceeding with the sale of the floor removes the loan’s ability to pay the borrower interest in the event the index resets below zero.

The borrower “is not only paying the agreed upon fixed strike of a vanilla swap to its counterparty, but it’s also going to owe the difference between zero percent and the [index] reset rate to the swap counterparty,” she said. “This is because its loan isn’t reflecting that negative interest rate.”

Buying back the sold floor is more expensive than selling the floor and proceeding with a straight vanilla swap, since it’s a one-sided market and most market participants are looking to buy back the floors. So is it worth it?

In an example provided by Chatham, a 10-year Euribor swap with a swap rate of 20 bps adds 40 bps to the rate when the borrower buys back the zero-based floor. Ms. Irwin noted that when the Euribor rate is a positive 1%, the only difference in the borrower’s net effective rate if it doesn’t buy back the floor—the vanilla swap scenario—is the additional cost of buying back the floor, or that 40 bps.

But if Euribor resets below zero, say at a negative 1%, the borrower will have to make an additional payment to the swap counterparty, resulting in an effective rate of 120 bps, or twice what it would have owed if it had bought back the floor. “So the mismatch between your hedge and your debt is actually creating interest-rate risk, because the more negative the index resets at, the higher your interest expense becomes,” she said.

In a brief case study, Mr. Dhargalkar noted a Chatham client that had entered into a term loan extension and was considering hedging it. The corporate client didn’t anticipate the amendment would in any way change the terms of the loan, but after showing the agreement to Chatham it became clear that the USD loan now contained a zero-based floor. The advisory firm discussed the various options with the client, and ultimately it was able to work with the client and the lending group to put in place a conditional floor that would only apply if the loan were not hedged.

“That had a huge impact on the transaction the client was looking to put in place; specifically, it saved several million dollars on the hedge from a structuring standpoint, and it also gave them a nice template for future dealings with their bank,” Mr. Dhargalkar said.”

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On-Behalf-Of Structures: Lessons Learned

More companies are moving to streamline their payments and collections with on-behalf-of structures. Here are some lessons from the field.

Being a trailblazer is always nice but sometimes it pays to be the one who comes along next and learns from the trailblazer’s mistakes. And certainly, the more multifaceted the effort, the bigger the lessons learned. Such is the case with corporate payment and collections, part of the growing importance of supply-chain management and global cash management in general.

Corporates have long recognized the benefits of channeling payments and collections through a single legal entity via an on-behalf-of set up (POBO/COBO). They see reduced bank fees, simplified banking relationships, better operational efficiency and more control and visibility. Deutsche Bank has been one bank at the forefront of implementing on-behalf-of structures and has strengthened its product and advisory offerings in this area. iTreasurer asked Drew Arnold, Director, Trade Finance and Cash Management Corporates – Global Solutions Americas, Deutsche Bank, to explain some of the lessons learned in his experience implementing POBO/COBO structures. Mr. Arnold said that while all companies are different, there are some lessons that just about all companies can learn.

More companies are moving to streamline their payments and collections with on-behalf-of structures. Here are some lessons from the field.

(Editor’s Note—Original publication date: May 5, 2015)

Being a trailblazer is always nice but sometimes it pays to be the one who comes along next and learns from the trailblazer’s mistakes. And certainly, the more multifaceted the effort, the bigger the lessons learned. Such is the case with corporate payment and collections, part of the growing importance of supply-chain management and global cash management in general.

Corporates have long recognized the benefits of channeling payments and collections through a single legal entity via an on-behalf-of set up (POBO/COBO). They see reduced bank fees, simplified banking relationships, better operational efficiency and more control and visibility. Deutsche Bank has been one bank at the forefront of implementing on-behalf-of structures and has strengthened its product and advisory offerings in this area. iTreasurer asked Drew Arnold, Director, Trade Finance and Cash Management Corporates – Global Solutions Americas, Deutsche Bank, to explain some of the lessons learned in his experience implementing POBO/COBO structures. Mr. Arnold said that while all companies are different, there are some lessons that just about all companies can learn.

More Complex, More Benefit
One lesson that Mr. Arnold has drawn from years of helping corporations navigate the path to both POBO and COBO structures is that companies often shy away from them because they think their organizations are too complex.

Very often, Mr. Arnold said, he hears from companies that say, “We’re too complex” or “We have too many operating companies.” But what’s ironic, he said, is that “the more complex [a company is] the greater benefit they can get from an on-behalf-of model; that complexity shouldn’t be a hurdle to doing an on-behalf-of model.”

It will mean performing more due diligence, however, Mr. Arnold acknowledged. But for doing that extra legwork companies can get “much greater benefit than someone who has a more simplified organization. In fact, he said, if a company has a very simplified legal entity structure, “there might not be any benefit to doing an on-behalf-of model, or the benefits are so low they don’t justify the costs of doing it.”

On the other hand, if it does seem too daunting or perhaps the resources aren’t available for a full-blown POBO/COBO campaign, another route is to take it one country or one subsidiary at a time. If one country has a lot of legal hoops to jump through, Mr. Arnold said, then companies should consider moving on to a different country that’s easier to navigate. As for subsidiaries, they can also be added piecemeal.

“You don’t have to include one hundred percent of your legal entities in a structure to be able to get the cost-benefit equation that makes sense for you,” Mr. Arnold said. “If a company can include 50 percent [of its subs] in a structure, and they’re going to see great cost savings and efficiencies by including that 50 percent, that alone may justify putting in an on-behalf-of model.”

And then over time if it makes sense to include other entities or if regulations or market practice change in the previously bypassed countries, they can be added as they make sense. “So one hundred percent inclusion of countries or legal entities is not a requirement to be able to build a business case that justifies going ahead with an on-behalf-of model,” Mr. Arnold said.

Worth the Effort
Similarly, Mr. Arnold observed that many companies finish the POBO/COBO process and say that it was the toughest implementation they’ve ever been through. But, he added, no one who has gone through the set up ever regrets it.

“Many people say they were not aware of how long it would take,” Mr. Arnold added. They go on at length about all the difficulties, the challenges “not realizing how long it would take to put in service level agreements (SLA) between businesses or to define services or get the IT to work.” The challenges and work is definitely more than they expect, which is usually the case on any big project, Mr. Arnold said. “But then I always ask the question, ‘Knowing what you know now of what you had to go through to get where you are today, would you make the same decision?’ And they always say, ‘Absolutely.’”

This is certainly not something that one hears after many other large implementations, Mr. Arnold pointed out.

Welcome to Documentation
One of the more cumbersome areas in the work load—and one that Mr. Arnold said companies underestimate—is documentation. When companies use banks for payments and collections or they open an account, the bank provides the documentation that the client reads, signs and sends back to the bank. In other words it lays out all the terms and conditions and other relevant items.

“But when you go to an on-behalf-of model [now], that legal entity no longer signs all of its bank documentation, so instead of getting documents from the bank you now get them from the in-house bank,” Mr. Arnold said. “And the complexity is that there is no documentation that exists; it has to be done from scratch—SLAs, fee schedules (i.e. transfer pricing) and whatever it may be, because there is this arm’s-length relationship between the in-house and the legal entity. It’s sort of out-insourcing.”

Companies now have to do all this documentation on their own and between themselves, which can take time for a company to create. On the bright side, however, once the documentation is established the work is much less, but at the beginning it can be very complicated and time-consuming.

And again, Mr. Arnold said, it can vary by country which is one of the reasons bank documentation is so complex in the first place. “It’s not because we love complex documentation it’s just because of regulatory challenges in countries, and so now with an on-behalf-of model, companies have to take care of this themselves.”

Laying the groundwork
Like most big corporate projects, success depends a lot on the effort put in at the beginning. As Abe Lincoln famously said, “Give me six hours to chop down a tree and I will spend the first four sharpening the axe.” And so it should be in setting up a POBO/COBO structure. Getting the right team together and including all the parties from the outset will make the job easier to do and lessen the headaches along the way.

POBO/COBO “is highly complex and touches on many different parts of an organization,” Mr. Arnold said, “from treasury, to payables and collections teams, service centers, tax, legal, and both at the global and regional levels as well.”

Of those parts of the company, Mr. Arnold stresses it is the tax department that often can prove most critical. That’s because much of a corporate’s global strategy includes tax—if not actually built around tax issues. “All global corporates have developed their legal entity structure with a lot of input from tax,” he said, “So when moving to an on-behalf-of model you have to make sure that whatever you do will not in any way endanger or call into question the tax and legal-entity structure of the corporation.”

Mr. Arnold added that he’s seen several instances where treasury gets excited about doing a POBO/COBO project and after spending a considerable amount of time on it, brings it to the tax department where it gets shot down. “Tax takes the position that it has things set up in a certain way and you can’t go changing things,” he noted. “But if tax is involved early on in the discussion and it hears from a third party about what other companies have done… it becomes a lot easier.”

Mr. Arnold also stressed that POBO/COBO should not be sold as anything more than “an efficiency play.”

“The on-behalf-of model is not set up for any legal entity or tax optimization strategy,” Mr. Arnold said. “It’s purely an efficiency play: efficiency of making payments, collecting payments, managing the company’s liquidity, reporting at the entity level for the correct legal and tax reporting. So it’s efficiency; it’s cost savings.”

It is also a risk mitigation tool because you have greater visibility and greater centralized control, Mr. Arnold added, so you have reduced risk and a greater view into counterparty risk. “Once tax sees that, they’re more receptive to it.” Another consideration of laying the groundwork is to consider making it a long-range goal. “If you think you’re going to go to an on-behalf-of model anywhere in the near future, or within 5 years, you have to put in the building blocks.”

When opportunity knocks
When is the best time to start the project? Mr. Arnold said it’s often best to embark on a POBO/ROBO project when there is another big project coming up or when there’s a bank change coming.

“If you’re going to go through some major bank changes due to acquisition or divestiture or because you’re moving businesses between relationship banks” then it can be good idea,” Mr. Arnold said. In an acquisition, for instance, treasury will have to open up new accounts, set up all new payment flows using the current set up in any case, so why not start up that new acquisition right away with an on-behalf-of model? “Why go through all the set up and then a year later… go to an on-behalf-of model? Why not combine them?”

Overall, what a company should do is clearly lay out the as-is structures and processes and then lay out the perfect-world scenario, or what Mr. Arnold calls “the blue sky to be.” And then break down that journey into phases. “Define the objectives very clearly in how they’re going to get there and put in that plan,” he said. “That plan might take multiple years to get to where they’re going.”

Strategic opportunity
POBO/COBO structures are increasingly recognized as an efficient way to manage global cash. Although the initial set up of such a structure requires close coordination with tax and other partners, the ongoing benefits thereafter are well worth the initial legwork. That’s because it allows to treasurers to stop spending time on some of the mundane tactical responsibilities, allowing them to focus on the strategic, which ultimately adds more value to the company.

Sponsored by Deutsche Bank

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Treasury Center as Profit Center

The silver lining in the new scrutiny of global transfer pricing is that treasury might finally escape from its cost center box.

The context here is the mess treasury is going to face with tax, cleaning up after the OECD BEPS Actions. The silver lining is that the new scrutiny of global transfer pricing might serve as justification for treasury to become a profit center, or at least set up treasury centers and in-house banks that get better compensated based on arm’s-length pricing for services rendered. Few external banks are offering a treasury services where they don’t earn a profit, unless the services are part of an overall “wallet” that is profitable–so why should an in-house bank not be generating profit when providing treasury services for group affiliates?

The silver lining in the new scrutiny of global transfer pricing is that treasury might finally escape from its cost center box.

(Editor’s Note—Original publication date: March 17, 2015)

The context here is the mess treasury is going to face with tax, cleaning up after the OECD BEPS Actions. The silver lining is that the new scrutiny of global transfer pricing might serve as justification for treasury to become a profit center, or at least set up treasury centers and in-house banks that get better compensated based on arm’s-length pricing for services rendered. Few external banks are offering a treasury services where they don’t earn a profit, unless the services are part of an overall “wallet” that is profitable–so why should an in-house bank not be generating profit when providing treasury services for group affiliates?

The context here is the mess treasury faces with tax, cleaning up after the OECD BEPS Actions. The silver lining is that the new scrutiny of global transfer pricing might serve as justification for treasury to become a profit center, or at least set up treasury centers and in-house banks that get better compensated based on arm’s-length pricing for services rendered. Few external banks are offering a treasury services where they don’t earn a profit, unless the services are part of an overall “wallet” that is profitable–so why should an in-house bank not be generating profit when providing treasury services for group affiliates?

Arm’s length = profit
To say that an arm’s-length price must have a profit margin in it, may be simplifying things a bit, but it helps get to the argument that treasurers should be overseeing profit centers in response to growing scrutiny on transfer pricing. They should make this argument because it helps them with the biggest issue they face: being starved for resources despite the huge value-added role treasury plays, because they have only relatively soft performance metrics to point to (compared to profits) when asked to cut costs.

Here is just one service where arm’s length pricing should generate a profit for treasury:

Centralized exposure management for affiliates. Paragraph 69 of the OECD Discussion Draft on BEPS Actions 8, 9 and 10 (on revisions to Chapter 1 of the Transfer Pricing Guidelines, including risk, recharacterisation and special measures) lays out the logic [bold is our emphasis]:

“Often a MNE group will centralise treasury functions with the result that the implementation of risk mitigation strategies relating to interest rate and currency risks are performed centrally in order to improve efficiency and effectiveness. It may be the case that the operating company reports in accordance with group policy a currency exposure, and the centralised treasury function organises a financial instrument that the operating company enters into. As a result, the centralised function can be seen as providing a service to the operating company, for which it should receive compensation on arm’s length terms. More difficult transfer pricing issues may arise, however, if the financial instrument is entered into by the centralised function or another group company, with the result that the positions are not matched within the same company, although the group position is protected. In such a case, an analysis of the conduct of the parties may suggest that the treasury function is not entering into speculative arrangements on its own account, but is taking steps to hedge the specific exposure of the operating company and has entered into the instrument essentially on behalf of the operating subsidiary. As a consequence the treasury company provides a service…”

Risk is an important component of proposed transfer pricing revisions, since the entity that assumes the risk (as does the entity that receives capital) should have a capability to add value with it (a new take on substance). This gets to transfer pricing rewarding the entity with the capability, not just one contracted to assume risk (or capital). [Note: There will be a public consultation on these transfer pricing matters on March 19-20 at the OECD Conference Centre in Paris.]

Treasury is often the function with the most capability to manage financial risk and thus arm’s-length transfer pricing should reward treasury for the services it provides in managing it, especially when it involves risk transfer between affiliates, but even risk management done on their behalf.

High value vs. low value-adding services
In contrast to high value-adding risk management activities, there are low value-adding services that require arm’s length transfer pricing: Enough to reflect the service rendered, but not so much to shift profits unfairly by charging well in excess of their value add. The discussion draft for BEPS Action 10 (on Proposed Modifications to Chapter VII of the Transfer Pricing Guidelines Related to Low Value-Adding Intra-Group Services) suggests that financial transactions would fall outside the definition of low value-adding services, which may have transfer pricing determined on a more simplified cost-center basis.

However, one comment letter from bMoxie, a boutique Belgian professional services firm specializing in tax and transfer pricing, notes that financial transactions can be wide ranging, and thus not all treasury services would be high value:

“It is unclear what is meant with financial transactions. We tend to strictly define this is as the exchange of (financial) assets, and accordingly not be as broad as the full spectrum of financial services or services that relate to the financial position of companies. Indeed many multinational groups organize their financial services or treasury departments centrally to enable an efficient and effective service to the group members, which may include the execution of financial transactions, but also certain financial services. These services in turn may be fitting or not fitting the definition of low value-adding services. It is not uncommon that group treasury centers also provide auxiliary services that fit the examples of what is provided in paragraph 7.48 – i.e. that are merely of an accounting or administrative nature, and that do entail processing and managing of accounts receivable and account payable. In other words, the scope of a treasury department typically includes investment and funding activities, and may include other financial services that do require the assumption or control of substantial or significant risk, but may very well include services that could be considered low value-adding services, in the view of bMoxie.

Taking it one step further, even for instance in the light of a cash pool, that entails the exchange of assets, it may well be that the cash pool manager is only to be considered economically to be performing a pure clerical function when it contractually vis-à-vis the cash pool bank and the participants does not assume any risk, however in practice this would not unlikely be the case that the cash pool manager. We just wanted to make the point that even in the light of services auxiliary to financial transactions, there may be a certain division of activities amongst stakeholders that could lead one of the service providers rendering services that could technically qualify as low value-adding services.”

This sort of thinking will not get treasury out of its cost center box. It may also warrant more careful consideration going forward of what activities get put in a treasury center or in-house bank (e.g., payment and collection activities) vs. a shared services center, merely to keep the transfer pricing categorizations clean and the treasury-as-profit-center silver lining intact.

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Checklist: What You Should Know About ISDAs

Understanding the standard document used to govern over-the-counter derivatives transactions.

Based on many discussions with practitioners in The NeuGroups’s peer groups here is a checklist of things to consider when implementing ISDAs.

One of the first considerations is whether it is worth bothering to set up an ISDA with every counterparty.

Understanding the standard document used to govern over-the-counter derivatives transactions.

Based on many discussions with practitioners in NeuGroup peer groups, here is a checklist of things to consider when implementing ISDA Master Agreements (ISDAs).

One of the first considerations is whether it is worth bothering to set up an ISDA with every counterparty.

  • Only value-add banks, please. With limited trading capacity to spread around—as well as treasury bandwidth—practitioners agreed that firms should focus on the banks that are able to add real value from an dealer standpoint. If they don’t, why waste time and energy on negotiating an ISDA?
  • Invest in a good ISDA template. Many treasurers also agreed that it is worth the money to pay a specialist attorney to create an ISDA template. This could be used as a starting point for negotiations with counterparties (or ending point, if firms are prepared to walk away if a bank does not accept the basic tenets of the template agreement).

Consensus has it that a template should be doable for anywhere from $50-100K in legal fees (fees should be coming down as more corporates turn to ISDAs and the more corporate-oriented clauses become part of law firms starter templates).

The need to involve internal counsel to cross-check these templates might raise the legal costs. Finally, while the first instinct might be to limit the ISDA to FX, it usually is more effective to consider the broader counterparty risk across asset classes, when preparing the template.

  • Choose your vintage. It pays to keep track of what the major differences are between the different “vintages” of ISDA templates (in practice, 1992 or 2002; see sidebar below), and be prepared to argue for the “preferred” one. Several members have mentioned how hard it is these days to have all their banks of the same vintage but that they have still been reasonably successful.

“We try to keep them standard,” said a treasury head whose company is “99 percent” on 2002 ISDAs; another has managed to keep all its banks to 1992 ISDAs. Marc A. Horwitz, an attorney formerly with Baker McKenzie (now with DLA Piper), noted: “For end users (corporates), we prefer 1992, particularly for FX trading.”

  • Banks are different. Each bank has a different risk tolerance and will focus on different areas, such as the definition of early termination, settlement, or credit committee concerns. Overall, members agree that non-US banks are harder than US banks, and Japanese banks, for example, are very conservative.
  • Don’t hesitate to stick to your guns. Treasury should not be afraid to play hardball with banks when negotiating their ISDAs, or if they are up for renewal. One way is the template approach; another is to flag the clauses that are a source for concern and stand firm regarding those. Check with senior management of course, but if you don’t like the terms a bank is offering, be prepared to say “no thanks” and walk away.

Also, just as banks have their pet peeves about what they consider important aspects of the ISDA to protect themselves, in the end, said one FX risk director, “you have to carve out various aspects of the [ISDA] contract you don’t like.”

  • Beware multiple-branch clauses. When specifying entities covered by the ISDA in the “schedule,” it is also important to be clear on the language on multiple branches, as this can help determine whether it’s better to book trades, for example, with the local Citi branch or Citi New York. One FX director noted that no matter which branch executes his company’s deals they are always “booked” with the London entity of the trading bank. One of his peers in the NeuGroup’s European Treasurers’ Peer Group (EuroTPG) agreed: “We insist on dealing with the main bank or branch, nobody else.”

Whether pricing is influenced by where the trade is executed is something to watch out for. A firm in the large-cap bracket with a bank in one region of the world may be covered by the medium-cap group in another, due to the relative size of its presence there. This could be true for one or several banks.

Banks should also not be allowed to book trades from branches located in jurisdictions which prohibit offshore FX transactions unless the ISDA is in the name of the onshore sub.

OTHER CRITICAL CONSIDERATIONS

  • Cross-default thresholds. A cross-default provision (under which all outstanding trades covered by the ISDA can be terminated if the counterparty defaults on third-party debt) can be elected in the ISDA schedule, but firms should consider whether to have it. When opting for the provision, it is important to set a threshold amount such that a cross default is not triggered unnecessarily by technical but not material events, and is not lower than existing credit agreements’ cross-default thresholds.
  • Termination settlements. In the 1992 ISDA form (see below), there are two methods for calculating an early termination settlement (triggered by “default” and “termination” events defined in the contract):

1) “Loss” (or “unpaid amounts”); and

2) “Market quotation.”

The former considers the amount that would make the counterparty whole on the trade. The latter requires four market quotes and the ultimate price is the average of the two middle quotes.

“Some corporates take strong views on which they prefer,” noted Mr. Horwitz, based on their experience with closeouts or what types of trade they plan to use most.

Market quotes work well for vanilla trades because it’s considered likely the trades will be priced fairly. The “loss” method works better for highly structured trades.

  • Confirmation supersedes ISDA. After a few corporate derivatives debacles in the 1990s, banks favor inserting a “non-reliance clause” into the 1992 ISDA (it is in the pre-printed 2002 form) in which the bank basically says “you (the company) know what you’re doing, so we’re not responsible.”

Very few corporates manage to negotiate out of the non-reliance clause. Because trade confirmations supersede ISDAs, those that don’t have the clause should take extra care that the clause does not get reinserted into the trade confirmations.

On the other hand (and this is another “score” for SWIFT), a corporate practitioner pointed out that using SWIFT confirmations helps in this regard as there is “not much room for sticking in additional terms or changes.”

THE TABLES ARE TURNED

While ISDAs may have been insisted on by banks in the past, it is now corporates that are scrutinizing them to ensure they are properly protected when banks look vulnerable. Firms, therefore, should take extra precautions to guard against events that may work against them at some future point in a trading relationship, when banks again look less vulnerable, starting with a mutually agreeable ISDA.

WINE AND ISDAS: VINTAGE MATTERS
Should a firm opt for the 1992 or 2002 form of ISDA? The major differences between the two, said Baker McKenzie (now DLA Piper) attorney Marc. A. Horwitz, are:

Grace period for failure to pay. The grace period in the 1992 form is three business days, in the 2002, only one. For treasuries with limited bandwidth, three days’ grace can prevent mistakes and non-payments not due to credit default events from unduly punishing the firm or result in terminated trades.

Scope. The 2002 form includes a broader range of specified transactions, such as repos, reverse repos and securities loans. “For corporates, we generally prefer 1992; you don’t want an unexpected event in a non-ISDA trade to permit the bank to unwind this ISDA trade,” Mr. Horwitz said.

Force majeure. The 2002 form has a force majeure clause which governs termination of trades that are impossible to make payments on, after an eight business-day waiting period.

Right of set-off. The pre-printed 2002 form includes a set-off provision, which the 1992 form does not (it can be inserted).

Settlement. The 1992 form permits “loss” or “market quotation” as basis for the settlement price upon early termination. The 2002 form has a pre-determined method, a “hybrid” between the two, which doesn’t require four market quotes. There have been efforts within ISDA to migrate end users to the close-out amount, and while firms on the 1992 form can opt for this protocol, it “hasn’t taken that well with corporates,” Mr. Horwitz noted.

ELECTIVE EARLY TERMINATION
As counterparty risk concerns remain pronounced both on the corporate and the bank side, corporates are reporting that banks are showing increasing interest in inserting an elective-termination clause into the ISDA (in the Other Provisions section).

For example, one bank has requested to insert it into a 1992 ISDA master with a corporate, which would allow either side to terminate a derivative six months after inception, and every six months thereafter.

The concern with such a clause is that the company is at risk of the bank terminating a long-term hedge by invoking this clause, leaving the company unhedged. This could cause unintended cash-flow consequences and, more importantly, problems with the hedge qualifying for hedge accounting treatment even at inception.

While the ISDA forms have specified “default” and “termination” events that are standard and bilateral, elective early termination clauses are not common, nor are they recommended in an ISDA governing a relationship, and that may cover a multitude of trades over a long period of time. Former Baker McKenzie (now DLA Piper) ISDA attorney Marc A. Horwitz pointed out that, absent a compelling regulatory or credit reason for such a clause, corporates should push back on banks trying to insert it.

A hedge, after all, is for protecting the corporation, not the bank, as a risk manager pointed out, and corporates already have a way to get out of hedges: by unwinding them; this, however, should be the firm’s decision, not the bank’s.

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Crossborder Pooling: Notional vs. ZBA

For many MNCs, an emphasis on effective management of working capital has translated into renewed urgency in rationalizing liquidity structures.

The tight credit market—combined with general economic weakness—has forced a strong focus on cash and liquidity management for both cash-rich and cash-poor companies.

As the ability to generate cash (or borrow it) has declined, MNCs report an increased need to have a clear view of their cash position globally. Visibility, however, is not enough. Treasurers also need effective techniques and procedures to manage their global liquidity. That task increases in complexity as a result of geographical spread, multiplicity of banking relationships, cross-currency flows and corporate structure issues (e.g., tax).

For many MNCs, an emphasis on effective management of working capital has translated into renewed urgency in rationalizing liquidity structures.

(Editor’s Note—Original publication date: June 16, 2003)

The tight credit market—combined with general economic weakness—has forced a strong focus on cash and liquidity management for both cash-rich and cash-poor companies.

As the ability to generate cash (or borrow it) has declined, MNCs report an increased need to have a clear view of their cash position globally. Visibility, however, is not enough. Treasurers also need effective techniques and procedures to manage their global liquidity. That task increases in complexity as a result of geographical spread, multiplicity of banking relationships, cross-currency flows and corporate structure issues (e.g., tax).

A consolidated view of cash

One of the most useful liquidity-management tools in the treasury toolbox is cash “pooling,” an arrangement whereby the credit/debit positions of different accounts are viewed from a single summary perspective.

This approach gives treasurers a chance to view cash on a regional and global basis, at the same time allowing affiliates to utilize their collective liquidity more effectively (i.e., instead of one subsidiary borrowing while the other is flush with cash).

Companies planning to centralize cash for multiple international subsidiaries have two basic options available:

• Zero balance accounts (ZBAs); or

• Notional cash pooling.

While both achieve the same ultimate objective, there are technical differences, which can then have significant organizational and tax consequences to either approach.

Zero-balance accounts (ZBAs)

ZBAs refer to linked accounts at the same bank and in the same currency and country. Funds are physically transferred in/out (zero-balanced) from subaccounts to a main account daily.

ZBAs: Key Aspects

The following are the key characteristics of a ZBA pooling arrangement:

• Same bank/same branch

• Same country

• Same currency

• Segregation of subaccounts which are then linked to a main account

• Completely automatic (bank), no manual transfers required

• Intercompany lending arrangements if separate legal entities participate, which means an arm’s-length interest rate must be assessed.

This primary account is usually held in the name of the Corporate Parent, Country or Area Headquarters/Holding Company or a Regional Treasury Center, such as a BCC, IFSC or OHQ.

If the subaccount holders are divisions of the same legal entity (such as branches, sales offices or plants), there are no tax issues. Indeed, often companies use ZBAs as a simple method to segregate different types of activities, such as receipts and disbursements, even if there is no regional or organizational segregation already in place.

However, if the subaccount holders are separate legal entities (i.e., subsidiaries), the funds movement into the main account constitutes an intercompany loan from the subsidiary to the main account holder and vice versa; this, in turn, generates some tax and accounting issues.

Audit trail and accounting. For example, documentation must be maintained for audit trail purposes and the main account holder (e.g., central treasury) must charge an “arm’s length” interest rate to the participating subsidiaries. Although banks provide separate statements for each subaccount, they will not typically do the accounting, manage the loan portfolio or assess/pay interest. (Some banks do run separate businesses which provide these services on an outsourced basis, usually out of Dublin.)

So unless this aspect of recordkeeping etc. is handled by a bank or third-party outsourced service, it must be done internally. Many treasury workstations and ERPs provide intracompany loan-management functionality as part of their core offerings. If the activity is at all substantial, spreadsheet solutions may not be sufficient (and certainly won’t provide the layer of automation of both interest allocation/payment and reporting that makes this cost effective).

Cost benefits. In-country ZBA arrangements are very common and have been a staple of managing US cash for years. Yet they are not universally possible. In certain countries, such as Korea, ZBAs may not be permissible at all, and in countries where there is an assessment of debit tax on transactions out of a bank account, such as Australia, a ZBA arrangement may end up being not cost effective.

For treasurers managing subsidiaries in multiple countries/currencies, the ZBA structure can be set up as an overlay, but funds must first be physically transferred from country A, B or C to the concentration location.

Two-tier approach. Often there is a daily pooling/ZBA in the originating country first, and then a sweep or manual transfer to the location of the main account, with less frequency. Thus the cross-border ZBA is usually a two-tiered structure. Weekly transfers are fairly standard. Daily transfers cannot be cost justified except with the very largest multinationals.

Therefore, in assessing the efficacy of overlay ZBA arrangements, a cost/benefit analysis is essential to establish the target level of cash required at the local level, and the frequency of transfer to the main account. Also overlay options may require opening additional in-country accounts, which can get expensive.

But perhaps the main drawback or limitation of ZBAs is that they’re only available on a single-currency basis. Thus, at the treasury level, there must be a main account for each separate currency.

Notional cash pooling

That’s where notional cash pooling enters the picture. With notional pooling, there is no physical movement of funds between accounts; rather, credit and debit interest are offset. Interest is paid/charged on the net balance position, but the legal/tax separation of separate subsidiaries owned by the same parent is maintained.

The initial (or direct) benefits of pooling come from the reduction of overdraft interest expense by centralizing the company’s liquidity position (see example in table below).

Legal hurdles. Notional pooling is great in theory. In practice, however, this pooling arrangement is not permitted in all countries. In these countries ZBA arrangements are used.

The big benefit to this arrangement, however, in the countries where it is most common, such as the UK, Netherlands and Belgium, is that there’s minimal or no withholding tax on interest earned. Often, too, (unlike physical pooling/ZBA arrangements) it’s not necessary to have a main or header account; the offset is simply among the participants. However, some countries (such as France) do require that there is a holding company in place.

The key advantage of notional pooling is that it allows for a multicurrency view of cash.

Notional: Key Aspects

The following are the key characteristics of a notional pooling arrangement:

• Same bank/ different branches

• Same country is most common

• Multicurrency pooling is extremely sensitive from a tax and accounting perspective—Spain can’t participate, for example due to local tax regulations

• Cross guarantees are required by the bank, regardless of the cash position of the participants

• Interest actually charged/paid to participants is optional—but may be advisable from a tax perspective.

However, in order to pay/charge interest on a single consolidated basis, the bank will use an interest rate differential to avoid currency conversion, similar to how a short-dated swap is handled. From a company’s perspective, this may ultimately affect the cost effectiveness of the arrangement. The company typically ends up paying forward points, thus reducing the interest-rate earned for a positive consolidated balance.

There is also a risk factor involved, as treasury is actually outsourcing this activity (to a bank). This means treasury may lose some control over the counterparties involved in the transaction.

Virtual pooling. In reality (or in virtual reality), treasury can achieve similar effects by using internal systems to execute the loans or interest offsets, and then generating the appropriate entries into the accounting system (i.e., an in-house bank). Also the rates achieved for investing excess cash would be higher. In fact, although a few large banks do offer multicurrency pooling, they are not entirely comfortable with it. (One of the very large banks simply decided not to offer notional pooling, only ZBAs are used; notional pooling was too fraught with difficulties).

In all cases, however, the bank will not act as a tax advisor, will insist on a sign-off from the company’s tax counsel and require cross guarantees between the participants. (That’s a hurdle for many MNCs.)

Loan by every other name. Pooling ostensibly gets around the issue of putting intercompany loans into place, because it is notional. However, it is a variant of a short-term intercompany loan arrangement, allowing a bank service to handle the periodic cash-reserve ups and downs of different entities.

If there were a permanent or long-term mismatch in liquidity, companies would more effectively use intercompany loans as the mechanisms. That’s why tax authorities will look carefully at pooling arrangements, and still may require some type of arm’s length interest depending on the amount and tenor of the offsets.

Also, if the company is always in an excess cash position, the concept of a notional offset makes no sense. And using a notional multicurrency pool as an investment vehicle is counterproductive, as the interest raid paid on the pool will be far lower than what individual currency pools will be able to achieve.

As a treasury management technique, cross border pooling is primarily used in Europe and to a more limited extent on Asia, where there are still regulatory issues that limit the participation of certain countries.

It is not used at all in Latin America (regionally) where there are significant regulatory issues and withholding tax restrictions on intercompany lending. Thus, the essential first step in evaluating any cross-border pooling arrangements is to focus on the management structure of the company and what tax implications may arise.

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Recent Stories

Making Bank on Receivables

Founder’s Edition by Joseph Neu

Investor demand for receivables-backed securities presents opportunities for banks that harness data, technology.

Last week, I noted how supply chain finance (reverse factoring et al) was raising concerns with accountants, rating agencies and regulators because it allows unscrupulous firms to potentially extend payables to fund their working capital without considering it to be debt.

This week I focus on the positive sides of trade finance and, especially, supply chain finance: Thinking about receivables plus data opens exponential possibilities to secure financing, usually at lower rates than many imagine. Here’s the story as it applies to reverse factoring:

Investors want trade receivables. Attending a bank session last month, I learned that every asset manager and insurance company (and probably a sizable segment of other smart investors) wants receivables-backed investment opportunities from credible supply chain programs. They are coming to banks asking to put $10 billion or more to work and the banks are asking themselves how to satisfy this investor demand. The banker leading the trade finance session said there is an estimated $1.5 trillion gap between supply and demand for trade finance paper. The gap will soon climb another trillion as SMEs become more integrated into supply chains.

Why trade receivables? What investors really want are securities backed by diverse pools of trade receivables that have mitigated credit risk due to commercial relationships. Critical suppliers to strong- credit buyers are a good risk, because the buyer is not going to let a good supplier go under by not paying an invoice; the payment ensures the cash flow that supports the security the investor purchases.

Has the invoice been approved? Clearly, if the invoice has been approved, then the credit risk is further diminished. Thus, a whole ecosystem of machine learning and AI has emerged to help predict which invoices are expected to receive approval. Some solutions are said to be accurate enough to win a government guarantee based on their predictions of whether and when the invoices will be approved.

Data as a risk mitigant. Of course, the predictive power of technology is very reliant on the data accessible to it. Indeed, the data is quickly becoming as or more valuable than the receivable itself. The more data a supply chain finance vendor/arranger has that indicates when buyers approve and pay which suppliers, not to mention the commercial importance of the transaction, the more confidence investors will have in the certainty and timing of the underlying cash flows.

Founder’s Edition by Joseph Neu

Investor demand for receivables-backed securities presents opportunities for banks that harness data, technology.

Last week, I noted how supply chain finance (reverse factoring et al) was raising concerns with accountants, rating agencies and regulators because it allows unscrupulous firms to potentially extend payables to fund their working capital without considering it to be debt.

This week I focus on the positive sides of trade finance and, especially, supply chain finance: Thinking about receivables plus data opens exponential possibilities to secure financing, usually at lower rates than many imagine. Here’s the story as it applies to reverse factoring:

  • Investors want trade receivables. Attending a bank session last month, I learned that every asset manager and insurance company (and probably a sizable segment of other smart investors) wants receivables-backed investment opportunities from credible supply chain programs. They are coming to banks asking to put $10 billion or more to work and the banks are asking themselves how to satisfy this investor demand. The banker leading the trade finance session said there is an estimated $1.5 trillion gap between supply and demand for trade finance paper. The gap will soon climb another trillion as SMEs become more integrated into supply chains.
  • Why trade receivables? What investors really want are securities backed by diverse pools of trade receivables that have mitigated credit risk due to commercial relationships. Critical suppliers to strong- credit buyers are a good risk, because the buyer is not going to let a good supplier go under by not paying an invoice; the payment ensures the cash flow that supports the security the investor purchases.
  • Has the invoice been approved? Clearly, if the invoice has been approved, then the credit risk is further diminished. Thus, a whole ecosystem of machine learning and AI has emerged to help predict which invoices are expected to receive approval. Some solutions are said to be accurate enough to win a government guarantee based on their predictions of whether and when the invoices will be approved.
  • Data as a risk mitigant. Of course, the predictive power of technology is very reliant on the data accessible to it. Indeed, the data is quickly becoming as or more valuable than the receivable itself. The more data a supply chain finance vendor/arranger has that indicates when buyers approve and pay which suppliers, not to mention the commercial importance of the transaction, the more confidence investors will have in the certainty and timing of the underlying cash flows.
  • New value in data sources. This data, unfortunately for banks, resides mostly in ERP systems and not in the banking system. This explains the opportunity for ERP vendors and fintechs to partner to source this data to reduce trade friction and mitigate credit risk. If every invoice that gains approval were updated in the ERP and that information was made available instantly to a bank or securitization pool, the world would be a different place.
  • Trusted intermediary for the data. With concern growing about who has access to what data, especially when it involves historical relationships between trusted counterparties, who plays the role of intermediary for receivables data matter.
    • Banks would be one option, but they are limited in how many counterparties they can onboard to their systems (and how quickly) due to KYC regulations. Unregulated fintechs have more scope to onboard, but do they have the trust factor?
    • Another option might be platforms like Marco Polo or Voltran (now Contour), that could use their distributed ledger/blockchain to provide secure intermediation of the transactions and the data.
  • Who provides balance sheet? Corporates in the Fortune 50 that look at supply chain finance programs also want to have someone else’s balance sheet behind them. “If the whole thing goes upside down, they want to know that there is a backer able to write a half-billion-dollar check,” said one banker. Yet no bank wants to support a platform that is not exclusively theirs and no corporate wants their supply chain dependent on one bank. Bolero and Swift efforts have shown the challenges of pleasing all constituencies.

Meanwhile, the opportunity to package trade receivables and the underlying data to create optimal pools of receivables at scale to meet investor demand remains.

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Treasurers Educate HighRadius on Cash Forecasting Needs

NeuGroup members give to get by providing feedback on AI-based cash forecasting solutions.

Treasurers at a NeuGroup meeting in Texas sponsored by HighRadius provided feedback to the Houston-based technology company on what they’d like to see from cash forecasting solutions that use artificial intelligence (AI) and machine learning (ML) to improve accuracy, reduce treasury’s need to input data and allow a wider variety of pertinent data.

  • HighRadius has long provided forecasting services for accounts receivable (AR), the biggest component of cash forecasting, that make use of ML. It now is applying the methodology to accounts payable and other cash forecasting components.

Input wanted. HighRadius executives eagerly sought input on the company’s cash forecasting solution now being developed, and here’s some of what they heard from NeuGroup members:

NeuGroup members give to get by providing feedback on AI-based cash forecasting solutions.

Treasurers at a NeuGroup meeting in Texas sponsored by HighRadius provided feedback to the Houston-based technology company on what they’d like to see from cash forecasting solutions that use artificial intelligence (AI) and machine learning (ML) to improve accuracy, reduce treasury’s need to input data and allow a wider variety of pertinent data.

  • HighRadius has long provided forecasting services for accounts receivable (AR), the biggest component of cash forecasting, that make use of ML. It now is applying the methodology to accounts payable and other cash forecasting components.

Input wanted. HighRadius executives eagerly sought input on the company’s cash forecasting solution now being developed, and here’s some of what they heard from NeuGroup members:

  • Drill down to the invoice level. The HighRadius app enables companies to explore which of dozens of variables—business line, currency, country—generate most of the variance between forecasted and actual cash. A NeuGroup member suggested going deeper still, to reveal which customers generate the variance.
    • A HighRadius representative said the firm’s technology already predicts payments by individual customers on the collection side, and “we’ve been debating how far to take it” with cash forecasting.
  • A longer tail. Orders for goods and services would be another helpful variable, one member said, because they look out further than invoices.
  • Size matters. Another member suggested that HighRadius include the ability to drill down to customers responsible for 80% to 90% of a company’s AR and provide details on those accounts.
  • Override. The app allows for manual overrides when, for example, a major customer wants to pay early, prompting one meeting participant to say it should identify the customer and explain the reason for early payment.
    • “We’ve heard similar requests, so it’s on the roadmap,” a HighRadius rep responded.
  • Cross-company learnings. A corporate customer may historically pay its annual invoice on time but face challenges this year that aren’t captured by historical data. A member asked whether HighRadius’ app incorporates that company’s more recent payment history with other clients, indicating potential troubles ahead.
    • That will come as High Radius’ customer base grows, a rep said, since “learnings from one company could apply to others.”
  • Sales forecasts? Yes, said a HighRadius rep, sales forecasts provided by a company’s FP&A group could be included in the model to generate long-term forecasts.
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Steps on a Technology Journey to Data-Driven Decisions, Actions

A detailed look at the progression of one tech company’s digital transformation.

Building and using a data lake that is a centralized source of data is a key part of the modernization and technology journey for treasury at one leading tech company; a progression from being data aware to data proficient to data savvy to achieving data-driven decisions and actions.

  • A treasury cash operations manager presenting details of this journey at a NeuGroup meeting said a top priority was “wading into the data lake despite the complexity” because treasury is “tired of pulling data from multiple systems.” Among the goals are data transparency, standardization and control.

Data analytics. This company’s treasury adopted Power BI (everyone is trained to use it) for creating standardized dashboards with drill-down capabilities so it could address questions immediately but also create a more self-serve environment. Using the tool’s capabilities to do data analytics, the member said, reveals both data-driven answers and, initially, data shortcomings.

  • Hence the benefit of the data lake. And as other NeuGroup members have noted, treasury’s ability to use AI and machine learning for cash flow forecasting and other purposes depends on having data that has depth and detail.

A detailed look at the progression of one tech company’s digital transformation.

Building and using a data lake that is a centralized source of data is a key part of the modernization and technology journey for treasury at one leading tech company; a progression from being data aware to data proficient to data savvy to achieving data-driven decisions and actions.

  • A treasury cash operations manager presenting details of this journey at a NeuGroup meeting said a top priority was “wading into the data lake despite the complexity” because treasury is “tired of pulling data from multiple systems.” Among the goals are data transparency, standardization and control.

Data analytics. This company’s treasury adopted Power BI (everyone is trained to use it) for creating standardized dashboards with drill-down capabilities so it could address questions immediately but also create a more self-serve environment. Using the tool’s capabilities to do data analytics, the member said, reveals both data-driven answers and, initially, data shortcomings.

  • Hence the benefit of the data lake. And as other NeuGroup members have noted, treasury’s ability to use AI and machine learning for cash flow forecasting and other purposes depends on having data that has depth and detail.  

The role of the cloud. The presenter said that moving treasury applications to the cloud to co-locate data reduced IT’s footprint by 60%. Treasury has about 40 applications; 24 of them are first-party apps (meaning the company builds and maintains them in-house), and the rest are third-party apps. The first-party apps address:

  • Cash forecasting
  • Cash visibility
  • Bank account management
  • Intercompany loan management
  • Wire requests and tracking

SWIFT gpi and transparency. The company was an early adopter of SWIFT gpi, which allows treasury to track wires once they leave treasury’s banking partner. One member said this is good news for her treasury. “This will be very beneficial to us as we have limited visibility to transactions once they leave our banks,” she said. “SWIFT gpi will provide more transparency on payment statuses.”

SWIFT and the cloud. The company and SWIFT have worked together on a cloud-native project that allows SWIFT wire transfers to be done over the cloud. The teams have enabled SWIFT wire transfers on this setup. The company is the first cloud provider working with SWIFT to build public cloud connectivity and will work toward making this solution available to the industry. 

How it works. Treasury sends a wire instruction through a web app on the cloud, which is validated by using machine-learning algorithms.

  • Once validated for authenticity, these wires are sent to SWIFT via the company’s SWIFT installation on the cloud. SWIFT validates the wire instructions and sends it off to the appropriate bank. Once the bank carries out the wire instruction, it sends confirmation through to treasury.

Machine learning. Treasury built a machine-learning forecasting solution that is addressing a key FX exposure for the company while improving forecast accuracy of AR and operational efficiency for the team.

  • Historical data in the cloud was cleaned and used to create the solution using the R programming language and other tools.
  • Cumulative forecasting of notional exposure improved by 6%.
  • Volatility of FX impact on other income and expense was reduced by ~25%.

The people part. Like many treasury teams, this one is trying to strike the right balance between people in possession of core treasury knowledge and skills and those who are more adept at data analytics and have advanced quantitative abilities. In addition to everyone learning Power BI, treasury recently hired its own data analysts.

The problem remains, though, that some staff lack the skills, ability or interest to learn new tools and technology at a point when data science is increasingly critical. The treasury team highly encourages employees to take courses to increase their skills in the data analytics space and provides sponsorship to help them achieve these goals.

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Tales from the Cyber Crypt

Assistant treasurers exchange recent scary cyber tales of success and failure.

In a breakout session at NeuGroup’s Assistant Treasurers’ Leadership Group focusing on securing companies from cyberattacks, members recounted recent experiences and the conundrums they face combating them.

Digital protection, à la carte. NeuGroup’s own Scott Flieger, director of peer groups, said a fellow member of a college board who runs a cybersecurity advisory firm recommends companies make a menu of their digital assets, from bank accounts onward, and seek to value them. Then ask how much the company is willing to pay to protect that asset. He added that few understand a company’s digital assets better than assistant treasurers. “Being the person in treasury who has an inventory of the digital assets and can value their importance—that’s an important position,” Mr. Flieger said.

Assistant treasurers exchange recent scary cyber tales of success and failure.

In a breakout session at NeuGroup’s Assistant Treasurers’ Leadership Group focusing on securing companies from cyberattacks, members recounted recent experiences and the conundrums they face combating them.

Digital protection, à la carte. NeuGroup’s own Scott Flieger, director of peer groups, said a fellow member of a college board who runs a cybersecurity advisory firm recommends companies make a menu of their digital assets, from bank accounts onward, and seek to value them. Then ask how much the company is willing to pay to protect that asset. He added that few understand a company’s digital assets better than assistant treasurers. “Being the person in treasury who has an inventory of the digital assets and can value their importance—that’s an important position,” Mr. Flieger said.

Bad timing. The email system of a NeuGroup member firm’s collections team was compromised, revealing all its customer contacts. The fraudsters then sent realistically scripted emails to customers requesting payments be sent to a different bank and providing the necessary details.

The member’s security team wanted to alert customers, but it was two weeks from quarter end, “and you don’t want to spook customers so they don’t pay you—a real treasury issue,” the member said.

Cyber reticence. Companies develop their cybersecurity plans internally, but then what? “One of our biggest challenges was that people don’t want to talk about cybersecurity,” one participant said, noting wariness about discussing the plan with third parties.

  • “We had a hard time finding peers to benchmark against, and we were paranoid as well, creating a special NDA that we made all of our banking partners sign before talking about our cybersecurity,” he said. Even his team’s discussion about how to store the plan was challenging, “because we effectively created a playbook for how to hack us.”

Cryptocurrency conundrum. A ransomware attacker may demand the transfer of $50,000 in Bitcoin to a cryptocurrency account to unfreeze a company’s system. If news breaks on CNBC about the attack, pressure will mount to meet that demand, but opening cryptocurrency accounts takes time. Companies may open cryptocurrency accounts in preparation for an attack, but would this information becoming public in an earnings call invite such attacks? And should any payment be made at all, given that the attacker could be a terrorist organization?

  • One solution: “We back up all our data, even on the desktops, so if we get locked out of our primary system, we can just reload everything,” one member said.
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Crisis Management Brings Executives Together

Having a crisis response plan can help make the company more resilient now and later.

Following a framework for crisis response planning that engages management as well as the board can create significant political capital for internal audit, not to mention better prepare the company for crises that may arise.

Having a crisis response plan can help make the company more resilient now and later.

Following a framework for crisis response planning that engages management as well as the board can create significant political capital for internal audit, not to mention better prepare the company for crises that may arise.

Multipurpose framework. The head of internal audit at a major government contractor said in a recent NeuGroup meeting that his company uses the National Fire Protection Association 1600 Standard on Continuity, Emergency and Crisis Management. He described it as a “fairly transferable” framework that can be used across a variety of scenarios, from fire drills to much more complex and resource-intensive corporate initiatives. Most members participating in the meeting were unfamiliar with the NFPA document and listened raptly as the IA chief describe the benefits.

The member noted that the company’s risk committee chairman had required adopting the framework and given the nature of the company’s business, most of its provisions were already in place.

What not to do. The member said a fascinating outcome of crisis response planning is understanding better what executives are not supposed to do or say, “particularly for the C-suite, where it’s not uncommon to have lots of type A personalities.” The exercise clarifies what each executive’s role is and emphasizes letting the crisis manager inform them about developments so they can better determine their next steps.

By promoting understanding of the various scenarios and analyzing what to report versus what to disclose, the requirements and the cadence of reporting, “We really challenged management to think about that, and it was very helpful,” he said.

Muscle memory. “Every time we went through the exercise, whether [for a major initiative], or for cyber, or an inside threat, we’d learn something new, or ask questions we hadn’t thought to ask before,” the member said. The future will always bring situations that can’t be anticipated, and he recounted a few humorous ones. “There’s always something you don’t think about, but the more you do it, it builds muscle memory,” he said.

Political capital. The member noted that facilitating these conversations in his capacity as IA was highly rewarding. “It engaged management at different levels and created political capital that has paid dividends in so many different areas for IA,” he said.

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Appealing to Millennials and Gen Zers: The Academic Perspective

Insights from the Foster School of Business on what today’s MBAs want—and what treasurers have to say.

Corporates who want to hire MBA finance graduates face a highly competitive market and are well served by knowing what the current crop of millennials and Gen Zers value most when weighing job offers. That was among the key takeaways from a presentation by faculty and administrators at the University of Washington’s Foster School of Business to the members of a group of treasurers at mega-cap companies. Here’s what matters most:

Insights from the Foster School of Business on what today’s MBAs want—and what treasurers have to say.

Corporates who want to hire MBA finance graduates face a highly competitive market and are well served by knowing what the current crop of millennials and Gen Zers value most when weighing job offers. That was among the key takeaways from a presentation by faculty and administrators at the University of Washington’s Foster School of Business to the members of a group of treasurers at mega-cap companies. Here’s what matters most:

  • Strategic thinking
  • Business decision-making
    • A Foster School assistant dean later elaborated: “New graduates are seeking jobs in strategic positions that impact a company’s present and future direction. They are savvy in technology, use of communication networks, and see both the present and the future in how they think, so where they can exercise these attributes and skills makes a difference to them.  They think with innovation in mind and have a global sense of their potential impact.”
  • Cross-functional teams
  • Salary
    • The average salary for Foster’s 2018 MBA finance graduates was about $115,000, plus a signing bonus of $25,000.
  • Flexibility/work balance.
  • Promotions.
    • In an earlier session, one treasurer asked his peers if they found that new hires expected a promotion every year. He said that’s unrealistic and his approach is to tell people the company is “going to get you where you ultimately want to go,” but don’t expect a promotion every year. Another treasurer said finance has a 70% retention rate and warned, “You’ll lose them if they’re not advancing.”
  • Frequent feedback. The Foster School professors added that MBAs want contact with senior leadership.

How to engage potential recruits. The Foster School presentation recommended members take these actions to appeal to MBA students:

  • Give a guest lecture or serve on a panel at the school.
  • Host a group of students for a tour or talk.
  • Sponsor a spring analytics project.
  • Mentor a student.
  • The obvious: Hold on-campus recruiting events.

The corporate perspective. Not all the treasurers present said they favored MBA graduates. In fact, one member said MBA grads who are on rotations in the company’s leadership program usually don’t return to finance roles because they “want to do exciting business stuff, sexy biz dev stuff.” It’s easier, he said, to retain undergraduates who start in finance. “I love the leadership program when we get undergrads,” he said.

  • Another treasurer asked, “How do we make finance sexier?” He noted that corporates are often competing against investment banks for top talent.
  • The first treasurer said that when he does hire MBAs, he takes graduates from “second tier” schools who did well and are intent on proving themselves, as opposed to trying to recruit Ivy League MBAs. “Let them go to McKinsey or Goldman Sachs,” he said.
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Supply Chain Finance Faces Rising Regulatory Scrutiny

Founder’s Edition, by Joseph Neu

Making sense of calls to increase debt classification and disclosure requirements for reverse factoring.

I received an email recently from a consultant giving me a heads-up about a potential financial reporting change that could adversely impact the multibillion-dollar market for supply chain finance.

Founder’s Edition, by Joseph Neu

Making sense of calls to increase debt classification and disclosure requirements for reverse factoring.

I received an email recently from a consultant giving me a heads-up about a potential financial reporting change that could adversely impact the multibillion-dollar market for supply chain finance.

  • Extended payables vs. debt. At issue is the ability of companies to use a financial intermediary to pay suppliers at a discount while extending their payments terms to the suppliers (sometimes in conjunction with raising financing against their own receivables, too), or simply extend payables beyond the norm to preserve cash (aka reverse factoring, payables financing or supply chain finance). Many such transactions are not recorded as debt but rather as trade payables.

The collapse of the UK construction firm Carillion in early 2018, linked by critics to its misuse of supply chain finance, is seen as one tipping point. But the broader use of reverse financing to help firms fund themselves at lower cost that is being promoted by a growing number of financial intermediaries is also driving regulatory scrutiny. Here are some recent examples:

  • Big Four ask for guidance. The Big Four accounting firms in October took the rare step of sending the FASB a joint letter, asking it to weigh in on how companies should classify various supply chain financing transactions and what details they should disclose.
  • Rating agencies. Fitch has a formula it uses to adjust company debt ratios to reflect their use of supply-chain finance. Moody’s has issued a warning.
  • SEC calls for MD&A disclosures. At the American Institute of CPAs conference in December, SEC Corporation Finance Deputy Chief Accountant Lindsay McCord said businesses needed to use the Management Discussion and Analysis section of their financial statements to give investors insight on their use of supplier finance programs that might change their financial condition.

To get the views of our members, I reached out to a few who manage significant supply chain finance programs.

  • Transparency and standardization needed. “The significant variations among accounting professionals in how they treat SCF reporting, even within the same accounting firm, does create external reporting challenges,” one member said. He would support standardization of interpretation and transparency of reporting.
  • The ESG component. Standardization would support good governance “to remove financial engineering and creativity merely for the sake of metrics reporting (for MNCs and large corporates) that are not necessarily beneficial to the overall business environment,” the member said. SMEs can be especially victimized by extraordinary extended terms (240-360 days), he added, with settlement delays of another 30-60 days in some countries.
  • Are new rules really needed? In another member’s opinion, “Any hack analyst can tell what is going on. Yes, it is a bit of a trick with the ratings agency’s metrics, but they too know exactly what is happening.”

I think it is fair to say that audit firms should be able to come up with a more consistent application of the current principles-based approach—i.e., the extent to which an intermediary’s involvement changes the nature, amount, and timing of payables, plus the direct economic benefit the entity receives—even without the intervention of those who set accounting standards.

  • We should all support disclosures that are sufficient to determine adherence to this principal and make clear how financing techniques affect the statement of cash flows. Reputation risk and ESG ratings related to the treatment of suppliers will also help prevent abuse if capital providers are paying attention.

To see what such disclosures might look like, take a look at examples from Masco and Keurig Dr Pepper in their responses to SEC staff comment letters.

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Managing FX in Currency Tiers to Control Cost, Workload

Why one company’s treasury spreads currency management among teams for large exposures, currency clusters and “tier two” currencies.

At a recent NeuGroup meeting of treasurers in Europe, one member shared how his company manages FX risk management-related costs and workload by considering currencies in tiers.

Why one company’s treasury spreads currency management among teams for large exposures, currency clusters and “tier two” currencies.

At a recent NeuGroup meeting of treasurers in Europe, one member shared how his company manages FX risk management-related costs and workload by considering currencies in tiers.

Global policy, local execution. Generally speaking, at this company, corporate treasury at HQ is responsible for the framework and policies and the global hedging approach, but local (in-country) treasury staff implement the hedging strategy with advice and approval from HQ.

Big countries have their own treasury organization. Some countries in the global group are so large relative to the size of the company and have their own currencies that they will have their own treasury. Other countries together form a “cluster” that also can be managed on its own.

But “tier two” countries don’t. Various tier two countries can be served directly by corporate treasury. Here, local treasury and in-country project controllers forecast and monitor FX risks resulting from purchase orders, sales orders and tender offers, but the exposure is hedged at the group level by corporate treasury.

Other tier two countries are served by local treasury, such as India, China, South America and Africa; here, risk identification is done as above but the exposure is hedged with local banks by local treasury. (However, the valuation of the local third-party hedges is performed by corporate treasury.)

Group guidance promotes the use of global currencies like USD or EUR for project tenders in emerging markets but when that is not possible, negotiators need to ensure that currency fluctuation clauses are in the contracts. Failing contracts in global currencies, local treasury consults closely with corporate treasury to monitor risk and manage the cost of hedging.

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Smoother Sailing: The Benefits of Dynamic Discounting

How C2FO’s solution helps one company’s treasury team smooth its cash flows.

Successfully adopting dynamic discounting (DD) to execute early payments requires internal alignment across multiple functions in a corporate’s organization—as well as finding the right vendor and solution. However, the technology’s many benefits, including smoothing out cash flow for both the company and its suppliers, provide a persuasive argument.

How C2FO’s solution helps one company’s treasury team smooth its cash flows.

Successfully adopting dynamic discounting (DD) to execute early payments requires internal alignment across multiple functions in a corporate’s organization—as well as finding the right vendor and solution. However, the technology’s many benefits, including smoothing out cash flow for both the company and its suppliers, provide a persuasive argument.

A treasury executive from a major technology company explained her firm’s challenges and the benefits of implementing C2FO’s DD platform at a recent NeuGroup meeting sponsored by the Kansas City-based fintech.

The biggest challenge. The member said that aligning top executives internally was probably the most time-consuming aspect of the adoption, noting that there were multiple areas and teams impacted whose cooperation was critical. Besides the initial IT investment, the implementation required changing the company’s procurement and accounts payable processes.

  • The assessment and ultimately the recommendation to adopt C2FO were made by an executive committee comprising representatives from finance, treasury, IT, supply chain, procurement, and credit and collection. Ultimately the company’s CFO signed off on the project.

Three choices. The company considered employing the traditional discounting model, in which vendors receiving early payment within a certain number of days would accept a specified discount. Also contemplated: a sliding-scale model that tied the discount percentage to how many days early the vendors were paid.

  • Those approaches typically require extensive negotiations with suppliers and allow limited flexibility. The company chose the dynamic-discounting model, which lets it define the amount and timing of cash it deploys into the program and enables vendors to bid on the discount percentage they are willing to provide.

Smoothing out cash flows. The flexibility of the C2FO platform allows the company to better manage its cash flows, making the model especially attractive given the transactional, potentially volatile nature of the company’s business.

Benefits across the company. Treasury’s DD benefits include a risk-free investment opportunity, optimizing working capital and payment-term extensions. In addition to being a tool highly leveraged by treasury, there were benefits in other areas too:

  • Procurement: Stronger supplier relationships; standardized processes and payments; no more negotiating one-off discount terms.
  • IT: Minimal support required; a secure SaaS platform; easy user experience with minimal training; operations on multiple ERP systems.
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Share Repurchases: Don’t Wait for the Sell-off

The case for spending all (or almost all) the cash allocated to buybacks right away.

Monday’s stock market sell-off provides an opportunity to revist an insight on stock buybacks from a NeuGroup meeting last spring: A risk management expert at Deutsche Bank argued that waiting for dips is not the most effective way to repurchase shares. That’s worth considering given that many companies only buy back their stock when the price dips below what they consider its intrinsic value.

The case for spending all (or almost all) the cash allocated to buybacks right away.

Monday’s stock market sell-off provides an opportunity to revist an insight on stock buybacks from a NeuGroup meeting last spring: A risk management expert at Deutsche Bank argued that waiting for dips is not the most effective way to repurchase shares. That’s worth considering given that many companies only buy back their stock when the price dips below what they consider its intrinsic value.

Danger in waiting. Research by Deutsche Bank suggests that for almost all sectors, more shares are repurchased (at a lower price per share) if companies buy as soon as cash becomes available instead of waiting until the stock declines.

“Management is notoriously optimistic about its undervaluation,” the Deutsche Bank expert said. But given the commitment companies make to repurchase shares, they have to buy them back eventually, even the dip never comes, he said. “So the danger is waiting.”

Methodology. The back-testing research assumes that if the required dip does not occur after one year, the company starts spending incremental cash flow on share repurchases because “we assume that no more than one year of cash flow can be retained,” the banker said.

Dollar cost averaging. In simple terms, the problem with spreading out buybacks over a longer period of time is that stock prices have risen over the long term, the banker said. And while dollar cost averaging makes sense on an emotional level, “It’s best to spend the money as soon as it’s available.” The one caveat, he added, is that it’s smart for companies to have a liquidity reserve in case of severe downturns.

Buyback ups and downs. S&P Dow Jones Indices in December reported that share buybacks for S&P 500 companies reached $175.9 billion in the third quarter of 2019, 6.3% higher than Q2 2019, 13.7% lower than Q3 2018, and 21.1% lower than the $223 billion record set in Q4 2018. Numbers for Q4 2019 aren’t available but S&P says most estimates call for $189 billion.

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Activist Investors Who Care About More Than One Kind of Green

Founder’s Edition, by Joseph Neu

Takeaways from a fireside chat with ValueAct founder Jeffrey Ubben.

Based on a head’s up from a top Wall Street activist defense adviser, I went to an event earlier this month hosted by Refinitiv and Reuters Breakingviews that featured a fireside chat with ValueAct co-founder Jeffrey Ubben. Mr. Ubben has stopped trying to increase his net worth and is now focused on making the world a better place (at least according to his worldview). One of the vehicles for him to do this is the ValueAct Spring Fund launched in 2018, which invests in companies aiming to address environmental and social problems.

Founder’s Edition, by Joseph Neu

Takeaways from a fireside chat with ValueAct founder Jeffrey Ubben.

Based on a head’s up from a top Wall Street activist defense adviser, I went to an event earlier this month hosted by Refinitiv and Reuters Breakingviews that featured a fireside chat with ValueAct co-founder Jeffrey Ubben. Mr. Ubben has stopped trying to increase his net worth and is now focused on making the world a better place (at least according to his worldview). One of the vehicles for him to do this is the ValueAct Spring Fund launched in 2018, which invests in companies aiming to address environmental and social problems.

  • Inspired by Silent Spring. According to Ubben, the Spring Fund name was inspired by the Rachel Carson environmental science book published in 1962.
  • What makes the fund unique. It’s run by one of the leading activist investors at a firm with $16 billion under management that’s famous for, among other thing, forcing its way onto the board of Microsoft, proving mega-caps were not off limits. “It takes a profit maximizer to know a profit maximizer,” Mr. Ubben said. Bringing an activist mindset to an environmental and social investment mandate has appeal, and Mr. Ubben has raised $1 billion in capital so far.

Here are some key insights from Mr. Ubben:

  • Larry Fink’s letter ups the ante substantially. BlackRock Chairman and CEO Larry Fink’s latest annual letter to CEOs ups the ante on sustainability, calling for “a fundamental reshaping of finance.”
  • Building on multi-stakeholder and corporate purpose mandates. Climate risk as investment risk and putting sustainability at the center of investment mandates may be the most powerful driver of the multi-stakeholder, corporate purpose mandate that Mr. Fink helped usher into modern thinking in his earlier letter.
  • Sustainability is a way to get the long term back. The constituency to support sustainability includes at least two-thirds of CEOs who see it as a way to win back a long-term view from shareholders—give me more than a quarter to reallocate capital to save the world before showing returns on that investment. There are probably one-third of those that are really driven to save the world.
  • Profit maximization over decades. To make the case for profit-driven investment in sustainability, investors need to understand that the time frames must extend 30 to 40 years. Decisions made based on current values, versus terminal values, will lead to investments that will destroy capital over the next generation. They are not conducive to long-term profits.
  • Change the investor base. Thus, companies that want to embrace sustainability and long-term profitability in their corporate purpose need to move toward investors who share that purpose.
  •  This is the window to move. Not only is more research convincing more people to believe in climate risk and the need for action, but the cost of capital in the current lower-for-longer interest rate environment is conducive to making new investments and reallocating capital. As Mr. Ubben notes, we have moved from the traditional situation of being short financing to being short human, social and environmental capital.
  • The effort is capital intensive. Ultimately, the transition to sustainability will be capital intensive. Such a capital-intensive effort will require the capital structures of existing large companies. For this reason, Mr. Ubben is not a fan of villanization.
  • Big Oil capital budgets needed.  One of his investments is in Nikola Motor, for example, which is developing hydrogen fuel cells for long-haul trucking.  To move to this future, there needs to be substantial capital invested in refueling platforms and distribution. “We will need the capital budgets of a Shell or a BP to do this over the next 30 to 40 years,” he said.
  • Shifting value propositions. While shifting to long-term value propositions is one necessity for the fundamental reshaping of capitalist economies, another is a change in perception of value and unit economics. As an example, Mr. Ubben said that if biodiesel becomes mainstream, it would make sense for McDonald’s to pay customers to order french fries to generate more used frying oil to convert into fuel.
  • Utilities need pristine governance.  The grid is the most important asset in the energy economy, including a clean energy one. So it’s imperative that utilities embrace a multi-stakeholder model and adopt the best possible governance. If customers have no choice but to be utility customers, then the economy must rely on regulators and government to sustain their ESG viability. This drives Mr. Ubben’s activist investment in Hawaiian Electric Industries and his calls for a management shake-up. He favors performance-based ratemaking for utilities, encouraging them to become asset light and deploy micro grids.

Ultimately, it’s impossible to know if green activist investors like Mr. Ubben are motivated mostly by a philanthropic desire to fix a system they helped create and make capitalism work for society, or are using the increasing embrace of ESG to profit from green activism. It’s probably a bit of each. Regardless, finance professionals at multinationals have no choice but to pay attention and take action.

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Do You Need Outside Help for TMS Implementation? Maybe

Consultants can help TMS implementations, but practitioners retain some skepticism.

Implementing treasury management systems (TMS) is an arduous and complicated task that can benefit significantly from outside expertise but maintaining a skeptical eye can optimize the outcome.

Consultants can help TMS implementations, but practitioners retain some skepticism.

Implementing treasury management systems (TMS) is an arduous and complicated task that can benefit significantly from outside expertise but maintaining a skeptical eye can optimize the outcome.

ATLG members who had implemented TMSs expressed horror at the notion of returning to Excel spreadsheets. Nevertheless, TMS vendor consolidation and other factors have worsened already sketchy vendor support services, increasing the need for outside help and expertise. The peer group of assistant treasurers exchanged insights on how to best go about that:

Self-implementation is best. A member considering a new TMS said that while he’s comfortable using consultants on the front end to analyze current processes and potential treasury transformation opportunities as well as the RFP process, he and his team are debating whether to lean on outside resources to help with implementation. Another assistant treasurer (AT), whose experience included installing four TMSs, recommended treasury implement as much as possible to best understand how the system works. Be prepared for vendors’ poor after-sale service.

Some exceptions. NeuGroup members generally agreed with that advice, although one participant said her team did use a consultant to implement SAP’s treasury module, since the vendor’s “mindset” tends to be focused on enterprise resource planning (ERP) systems rather than treasury.

Consulting on infrastructure. Consultants can be especially helpful in early-on TMS implementation decisions, specifically when it comes to setting up the TMS infrastructure–such as static data, including entity and account structures, naming conventions and a variety of other items that can be difficult to change. “Things you have to live with forever,” said Tracey Ferguson Knight of HighRadius, whose prior experience spans sales, consulting and implementation services at Reval and Thomson Reuters’ TMS division.

RFP consulting concerns. A few members noted consultants’ familiarity with the range of TMS options and which may fit a company best. Ms. Knight cautioned about using consultants to guide the RFP process, however, given that many of their practices increasingly rely implementing systems. “Some are better than others, but they’re likely, even if subconsciously, to steer you toward solutions they know better, where they can earn more business on the implementation,” she said.

Make no promises. If a consultant’s systems selection help is necessary, don’t make any promises or even discuss the possibility of implementation work, to avoid potential bias throughout the implantation process, Ms. Knight said.

Just advice, please. Ms. Knight agreed that treasury should perform the bulk of the implementation itself, noting that consultants’ greatest value is advising treasury on how the TMS system works and applies to the specific business. The consultants at vendors, especially quickly growing ones, however, often have recently been hired and may not understand how to best tailor the TMS to the client company’s business. A third-party consulting firm may be a better bet, but make sure their staff is indeed experienced, since they, too—especially the biggest consulting firms—frequently bring on new hires.

One obvious solution. A participant noted her firm simply decided to hire one consultant for the RFP and a different firm for the implementation. “We selected a different one for implementation in part for price but also independence,” she said.

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What Would an AI-Driven Capital Allocation Look Like?

Perennial discussions of capital allocation tend to end up in essentially the same place.

My friend Tom Joyce at Deutsche Bank circulated the chart below last week in his “Chart of the Day” email. This one caught my eye because it shows how corporate uses of capital, at least at the S&P 500-company level, are pretty consistent year to year.

Founder’s Edition, by Joseph Neu

Perennial discussions of capital allocation tend to end up in essentially the same place.


My friend Tom Joyce at Deutsche Bank circulated the chart below last week in his “Chart of the Day” email. This one caught my eye because it shows how corporate uses of capital, at least at the S&P 500-company level, are pretty consistent year to year.

  • M&A and Buybacks. Tom calls out the changes:During the current M&A upcycle, which began in late 2014, M&A has risen as a percentage of total corporate capital allocation. Since the passage of US tax reform in December 2017, incremental earnings benefits have been disproportionately allocated toward stock buybacks.”
  • Marginal differences. Still, should we get that excited about sub-5% average increase in share buybacks? A one year 10% increase in M&A capital allocations?

It seems to me like there’s not much innovation going on with capital allocation decisions. Set your capex need based on where your products are in their life cycle, opportunistically look at liability management, set aside for anticipated M&A and then debate the merits of dividends vs. buybacks in line with your capital return guidance. Essentially a monkey could do it.

Yet, capital allocation is a perennial top project and topic for treasurers in our network. I hate to guess how many hours are spent deliberating and supporting capital allocation decisions with analysis.

  • Thought bubble. What would an AI come up with if it were tasked to optimize the allocation of corporate capital? Especially if it were not constrained with all the commonly held conventions and assumptions about how it is being done now?

If anyone has let an algo or AI loose on their capital allocation, real or hypothetical, I would love to know what that looked like. Or if you are aware of research or solutions in this area, please ping me to connect.

Capital allocation is already on the agenda for at least one of our upcoming treasurer meetings. I’d enjoy shaking up the discussion with something new and relish getting into the weeds on dividends vs. buybacks and the rest, but not if the discussions always lead people back to the same place. 

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A High Bar: Lowering Corporate Expectations and Under-delivering Successfully

Slower economic growth, tighter consumer credit put pressure on finance chiefs in Asia.

The subdued mood among participants at the recent NeuGroup meeting of CFOs in Asia reflected the difficulty many members say they are facing as China’s economic growth slows and business conditions worsen, while expectations for revenue growth at corporate headquarters remain unrealistically high.

Slower economic growth and tighter consumer credit put pressure on finance chiefs in Asia.

The subdued mood among participants at a recent NeuGroup meeting of CFOs in Asia reflected the difficulty many members say they are facing as China’s economic growth slows and business conditions worsen, while expectations for revenue growth at corporate headquarters remain unrealistically high.

Managing expectations. The key challenge, then, for some members is managing the expectations of those in the C-Suite who still want 10% revenue growth. In other words, CFOs and their teams need to figure out how to successfully under-deliver. This topic—and how to deal with failure—will be discussed at the group’s next meeting in April in Shanghai (email us about your eligibility to attend).

Tighter belts. Dealing with the fallout from lower production has meant implementing cost-cutting initiatives, and some members expect the challenging business climate and the need for belt-tightening to last three to five years.

Pressure to produce. As demand slows, members say Chinese authorities are exerting pressure on corporates to build inventory to reduce the impact on the economy and keep employment high. Much of this pressure is indirect, through so-called window guidance, which is a part of life in China and the way government agencies influence corporate behavior with unwritten rules.

Credit, not tariffs. Although trade tensions between the US and China have added to the region’s challenges, the tightening of consumer credit in China ranked as a more serious concern for many participants, based on comments during the projects and priorities session at the meeting.

  • Other concerns mentioned at the meeting include complying with China’s corporate social credit system and the wide-ranging reform of the country’s individual income tax that has implications for corporates.

Hope for the future. Members remain bullish on the long-term business prospects in China, thanks in part to the country’s population of 1.4 billion. But for now the pressure is on, and some members are searching for ways to reduce the stress. How else to explain why one finance team has created a “S— Happens Award?”

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What China’s Individual Income Tax Changes Mean for Corporates, Expats

CFOs with employees in the country need to plan for new residency rules and ensure compliance.

The most significant reform of China’s individual income tax (IIT) laws in 38 years has numerous implications for foreign workers and the multinational corporations that employ them. Michelle Zhou, a partner at KPMG, presented many of the critical elements of the changes to a group of CFOs at a recent NeuGroup meeting in Shanghai.

CFOs with employees in the country need to plan for new residency rules and ensure compliance.

The most significant reform of China’s individual income tax (IIT) laws in 38 years has numerous implications for foreign workers and the multinational corporations that employ them. Michelle Zhou, a partner at KPMG, presented many of the critical elements of the changes to a group of CFOs at a recent NeuGroup meeting in Shanghai.

Big picture. CFOs—who are responsible for income reporting—need to proactively dig into the details of the changes with tax advisors and coordinate closely with human resources departments to develop retention policies that address the potentially negative financial effects the new rules may have for some employees. These include changes in the treatment of annual bonuses and equity incentives—although not all details have been announced.

Defining residency. High on the list of takeaways is that an individual who lives in China for 183 days or more will now be considered a tax resident, instead of one year under the old rules. This has implications for whether the employee pays tax only on income sourced in China or on all of her worldwide income.
• A new “six-year rule” replaces the old five-year concession rule. Under the old policy, if a foreign worker stayed in China for five consecutive years, her worldwide income would be taxed in China. The new law extends the period to six years, allowing foreign workers in China more time to avoid paying taxes on income sourced overseas.
o Under the new rules, if the person leaves mainland China for more than 30 consecutive days at any point during the six years, the clock to count tax residency will be reset.

Tax-exempt benefits vs. itemized deductions. The new law allows foreign workers to take advantage of several new itemized deductions limited to specified amounts:
• Children’s education.
• Further education.
• Mortgage interest or housing rent
• Medical fees for serious illness.
• Elderly care.

Foreign workers who don’t take the deductions listed above can continue use tax-exempt benefits until the end of 2021 by claiming allowances of a “reasonable amount” for children’s education, language training fees, housing rental, home leave visits, relocation expenses, and meal and laundry expenses. Corporates need to make sure employees are aware of the choice and the pros and cons of their decision.

Greater Bay Area preferential tax policy. To attract highly skilled workers to a number of cities in Guangdong province, China is providing them with the incentive of an effective tax rate of 15% via a tax subsidy. The policy is effective until the end of 2023.

CFO checklist. KPMG identified several areas that fall within the CFO’s purview that require action:
• Review tax budgets and plans for the new IIT system, including interaction with payroll.
• Review compliance and implement robust policies and processes to mitigate risks; prepare for tax audit.
• Review the company’s obligation to employees, offer training on annual tax filing; work with HR on retention.
• Examine how the new rules affect business traveler risks.

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China’s Corporate Social Credit System: What Corporates Need to Know and Do Now

The implications and challenges for corporates facing a new world of ratings.

Full implementation of China’s corporate social credit system (SCS) is slated for the end of 2020—a reality with huge implications for multinationals doing business in the country. And that means more work for many CFOs and finance teams. • CFOs are often in charge of coordinating the final reporting of data provided by multiple areas of the company and ensuring there is no conflicting information. They’re also responsible for updates, the remediation of incorrect or invalid reporting, and follow-up with various agencies. It’s a huge job. Members of the NeuGroup’s Asia CFOs’ Peer Group got a helpful reality check on what corporate social credit ratings mean for them during a recent presentation by Björn Conrad, CEO of the China consulting firm Sinolytics.

The implications and challenges for corporates facing a new world of ratings.

Full implementation of China’s corporate social credit system (SCS) is slated for the end of 2020—a reality with huge implications for multinationals doing business in the country. And that means more work for many CFOs and finance teams.

  • CFOs are often in charge of coordinating the final reporting of data provided by multiple areas of the company and ensuring there is no conflicting information. They’re also responsible for updates, the remediation of incorrect or invalid reporting, and follow-up with various agencies. It’s a huge job.

Members of the NeuGroup’s Asia CFOs’ Peer Group got a helpful reality check on what corporate social credit ratings mean for them during a recent presentation by Björn Conrad, CEO of the China consulting firm Sinolytics.

The presentation included information from a study published in 2019 by Sinolytics and commissioned by the European Chamber of Commerce. In it, Chamber president Jörg Wuttke writes, For better or worse, China’s corporate SCS is here to stay and businesses in China need to prepare for the consequences, and they need to start now.”

The good news. It’s not too late to prepare. Sinolytics says “implementation gaps” will give companies time to make the necessary internal adjustments to manage their regulatory ratings and engage with government authorities on concerns, but notes that inquiries need to be detailed, concrete and technically precise. Corporate leaders need to:

  1. Understand exactly what the system requires from the business.
  2. Assess where their company stands regarding the requirements—and identify gaps.
  3. Design and implement effective internal adjustments.
  4. Continuously monitor further developments of the corporate SCS.

Hard facts. The corporate SCS assesses the behavior of companies through topic-specific regulatory ratings (e.g., tax, customs, environmental protection and product quality) and a parallel set of compliance records (e.g., anti-monopoly cases, data transfers, pricing and licenses). These ratings will be made public, meaning a company’s customers, suppliers and competitors will have access to information that may cause data privacy issues that are not yet resolved.

Sinolytics says:

  • The system covers virtually all aspects of a company’s business in China. A multinational is subject to approximately 30 different regulatory ratings—many industry-specific— and compliance records, most of which have already been implemented.
  • Each rating is computed based on a set of rating requirements. In total, an MNC can expect to be rated against approximately 300 such requirements.
  • Some requirements create strategic challenges for companies, including those relating to the behavior of business partners such as suppliers and service providers. This burdens companies with the responsibility of monitoring their partners’ trustworthiness.
  • The corporate SCS uses real-time monitoring and processing systems to collect and interpret big data, which allows immediate detection of compliance and determines a company’s social credit score.

Ratings reality. Sinolytics says algorithm-based ratings of companies will have direct consequences after the collected data is processed and rated against the defined requirements. A good rating leads to rewards and a negative performance is sanctioned.

  • Carrot: High corporate SCS scores can mean fewer audits (e.g., taxes, safety), better credit conditions, easier market access and more public procurement opportunities for corporates.
  • Stick: Low scores mean the opposite of the above, and for every negative rating, there’s already a set of sanctions in place, Sinolytics says.
    • Sanctions include penalty fees, court orders, higher inspection rates, targeted audits, restricted issuance of government approvals (e.g., land-use rights and investment permits), exclusion from preferential policies (e.g., subsidies and tax rebates), restrictions from public procurement, as well as public blaming and shaming. And don’t forget blacklisting. Sanctions can even personally affect the legal representative and key personnel of a company.

Will the system create a more level playing field?

Sinolytics says yes—in principle. “The requirements and consequences of the Corporate SCS apply to all companies registered in China, regardless of ownership structure. This might in fact translate into an advantage for international companies vis-à-vis their Chinese competitors, as many international companies feature more advanced internal compliance structures,” the study says. However, Sinolytics has these caveats:

  • The field may be more level but the game played on it will be more difficult and controlled than before.
  • The system has the potential for discriminatory use toward international companies as there is no guarantee that the ratings cannot be applied in a biased way, targeting specific companies with greater scrutiny.
  • Some of the rating requirements apply to all market participants but are more difficult for international companies to fulfill. “This appears to be the case for the State Administration for Market Regulation’s blacklisting mechanism for ‘heavily distrusted entities,’ which makes the SCS useable in trade conflicts.”
  • Chinese companies might have an advantage in navigating the intricacies of the system, and that’s potentially enhanced by better information flows from government authorities.
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Love It or Hate It, ESG Is a Key Theme for 2020

Reasons you can’t afford to leave ESG off your priority list.

ESG and related themes of sustainability and green finance are polarizing. Nearly everyone sits on a spectrum where one end thinks it’s all a bunch of hooey and the other argues it’s the key driver of finance for the next decade. Personally, I feel conflicted—one reason ESG didn’t make my initial list of key 2020 issues.

Founder’s Edition, by Joseph Neu

Reasons you can’t afford to leave ESG off your priority list.

ESG and related themes of sustainability and green finance are polarizing. Nearly everyone sits on a spectrum where one end thinks it’s all a bunch of hooey and the other argues it’s the key driver of finance for the next decade. Personally, I feel conflicted—one reason ESG didn’t make my initial list of key 2020 issues.

Mixed feelings aside, I’m convinced the decade ahead is a time to take ESG and all it brings with it seriously. As I noted in an earlier post on green finance, there’s a “tsunami” of sustainability-linked finance products coming, as a member treasurer at one company leading the way put it.

Skeptics coming around. A top M&A and activist advisor at a leading Wall Street firm confirms that even investment banking skeptics have come around to ESG and green finance being a key consideration. “We didn’t really take it that seriously until about six months ago,” he said. “Yet now it’s a strategic priority for the bank, with an executive level committee dedicated to ESG and related opportunities.”

M&A options. More specifically, ESG has opened up a lot of new thinking about what deals might win regulatory approval and political backing when presented through a sustainability lens. The advisor also said that the financing for an acquisition can be structured more favorably now if you look at sustainability finance options.

Activism. ESG was once viewed primarily as a tool for activists looking, for example, to pry open a seat on the board. Now it’s become a guiding strategy in and of itself. Look at Jeffrey Ubben’s ValueAct Spring Fund, which invests in companies aiming to address environmental and social problems. Mr. Ubben represents a new breed of ESG investors who, having made a fortune as activist investors, are now trying to make the world a better place by using their knowledge and experience—not to mention their activist aggressiveness.

Board focus. For these reasons and others, boards are also focused on ESG, so it makes sense for corporate leadership to focus on it, too. According to a recent Deloitte white paper on 2020 board agendas, “Perhaps the most dramatic development―or, rather, series of developments―that boards may need to consider in 2020 is the intense focus on the role of the corporation in society.” This includes “social purpose” but also “concerns about persistent economic inequality, climate change, and the availability and cost of healthcare, as well as concerns about the ability of governments to address these and other issues.”

Investors, workers. As a result, the paper says, ESG “has also garnered the attention of investors and others, who are increasingly asking whether and how companies are affecting and affected by environmental and social developments.” Employees are also asking. “The rise of employee activism during 2019, with actions such as work stoppages and shareholder proposals, has increased the stakes in these and other areas.”

Disclosures. Risks tend to be taken more seriously when they are disclosed prominently in public financial statements. As Deloitte notes, “Companies are being called upon by investors and others to provide disclosures concerning the ESG challenges they face and how they address those challenges.” One driver is “the rise of third parties―including so-called ‘rankers and raters’―who comment on companies’ efforts in this area, making it important for companies to tell their stories rather than let someone else do so.”

Storytelling. As more observers are noting, ESG-driven investing of corporate cash, 401(k) and pension plans, as well as corporate venture funds and M&A efforts by biz dev teams, are relatively cost effective ways to help companies tell this story. Sustainability-linked finance, given its embrace by key market participants, may be an even better way to do this. But whatever you do, put ESG on your 2020 priority list.

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Making Better Use of Data to Manage Risk

Cognitive risk sensing identifying and mitigating risk into dynamic process.

Cognitive risk sensing (CRS) is said to be the next frontier in terms of analyzing risk and addressing it in a dynamic fashion. But the approach, which should be especially helpful for internal audit (IA) and other risk functions, is still in its infancy for most organizations.

Cognitive risk sensing identifying and mitigating risk into dynamic process.

Cognitive risk sensing (CRS) is said to be the next frontier in terms of analyzing risk and addressing it in a dynamic fashion. But the approach, which should be especially helpful for internal audit (IA) and other risk functions, is still in its infancy for most organizations.

Neil White, risk and financial advisory principal and global internal audit analytics leader at Deloitte, said organizations have used structured data from areas such as operations and human capital to judge risk, often very effectively. However, such analysis tends to be backward looking.

Outside in. More recently, companies have started to tap unstructured data from outside the organization, an approach that has been used for some time in areas such as marketing and sales. But now is being applied to risk. Essentially that means pulling vast quantities of that data together from social media and other media sources, often using third-party aggregators. Quickly evolving technology such as natural language processing, machine learning and other forms of artificial intelligence now enables the analysis of that data that wasn’t possible before.

Room for growth. CRS is being applied by a still relatively small percentage of companies, according to a recent survey of C-suite ad other executives conducted by Deloitte. Just over 25.4% said their organizations collect and analyze external, open-source data as part of an IA function, and only 5.3% said they’re using it across the organization, with 30.6% saying they’re lagging.

Many of those companies using CRS today are likely in the financial services industry, which Mr. White said has been ahead of the game, adding Deloitte is also working with organizations in the healthcare and consumer-products space. A financial services firm, for example, can collect open-source and unstructured data about regulatory, technology and other issues impacting competitors, and using that information to determine how it, too, may be impacted.

Intelligent ML. “Now we’re starting to see risk insight being drawn from external data sources, with more intelligent ML learning models, resulting in a more resilient organization that can respond more quickly to those risks,” Mr. White said.

Since ML and similar technologies are more readily available and understood, Mr. White said. “We’re starting to see those applications into other parts of the risk world.”

For example, in the supply chain, domain specialists will use CRS for forward-looking insights to identify the potential commodities shortages in key markets or supply chain disrupted due to labor. “A large food distribution company using this for a more forward looking view on whether there will be disruptions to the underlying ingredients that go into those food products,” he said, adding that Deloitte is working with a medical device company using this approach to monitor potential risks in 14 different domains.

“It’s the first time we’re moving into a more forward-looking risk world and not relying entirely on the human knowledge within the organization,” Mr. White said, “And to me that’s what’s really exciting about this.

Dynamic response. He added that especially exciting is CRS enabling IA to get closer to the concept of real-time assurance, which, helps IA move a little closer to the genesis of the risk and respond more dynamically and provide more timely assurance.

“So it’s not just about a tool to peek over the horizon. Those companies who are doing CRS well are changing their entire risk response process and how they align talent, increasing the regularity with which they refresh their risk register and updating audit plans,” Mr. White said.

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Rising Insurance Premiums Inflict Pain, Require Pushback

D&O prices spike as insurers respond to a surge in claims following a Supreme Court decision.

Rising insurance premiums had treasurers and assistant treasurers at a recent NeuGroup meeting using plenty of colorful language to describe the current market for coverage and the pain some carriers have caused with their initial pricing proposals.

D&O prices spike as insurers respond to a surge in claims following a Supreme Court decision.

Rising insurance premiums had treasurers and assistant treasurers at a recent NeuGroup meeting using plenty of colorful language to describe the current market for coverage and the pain some carriers have caused with their initial pricing proposals.

  • Among the tamer comments, one member said the directors and officers (D&O) market is the “ugliest in years” and that “a lot of frustration” erupted in her department when the first price quotes arrived. She added that she’s seeing increases in “all areas” of coverage and that her company “almost dropped” its primary D&O carrier.
  • Another treasurer whose company buys insurance in the UK said insurers in that market that had been mispricing D&O coverage have reversed course and are raising premiums.

Sources of pain. Among the reasons for rising D&O premiums, members say insurers are citing an increase in claims and more lawsuits following a 2018 US Supreme Court decision known as Cyan that actuarial consultant Milliman says, “allows 1933 Act lawsuits to proceed in state courts, which eliminates the ability to consolidate cases. This doubles the number of cases and costs to the offending company.”

Time-consuming pushback. One treasurer said negotiating lower premiums required repeatedly “going back” to the insurer and that “it took a monumental amount of time to get it down.” Another participant said renewing property insurance “takes months” while a third said his company recently put out an RFP for property coverage.

  • The insurer for one company wanted to raise its D&O premiums 37% but the treasurer said the actual increase ended up being “much less” after lots of back-and-forth.
  • Several treasurers said their frustration with price increases partly reflects that their companies have paid millions of dollars in premiums to insurers over the years but have never made a claim—or have made very few—one of the arguments they make in negotiating lower increases.
  • Some companies are moving away from buying “ABC” coverage for D&O and are just buying side A, which covers D&O liabilities that cannot be indemnified by the company.

Bigger picture. The bleak picture of the commercial insurance market for corporates that emerged at the meeting is consistent with trends captured by the Marsh Global Insurance Market Index:

  • Global commercial insurance prices rose by 7.8% in the third quarter of 2019, the eighth consecutive quarter of price increases. The third-quarter rise in pricing was the largest year-over-year increase in the index since its inception in 2012.
  • In the US, financial and professional (FinPro) liability pricing increased by 11%, driven by directors and officers (D&O) pricing. “Factors contributing to the market firming include increased litigation with event-driven lawsuits expanding to areas such as #MeToo, cyber breaches social media and safety,” Marsh said. Cyber insurance pricing increased by nearly 3%.
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The Art—Not Science—of Matching Capital Allocation to the Situation

Treasurers discuss their palette of ways to achieve balance sheet flexibility amid binary events and M&A.

Decisions about capital allocation help treasury pave the way for the road ahead and may take on added importance for businesses generating lots of cash—as well as for those whose growth is downshifting. Treasurers at a recent NeuGroup meeting of life sciences companies shared approaches to the challenges of allocating capital during a variety of scenarios and situations.

Treasurers discuss balancing the need for liquidity with keeping cash levels moderate as business ebbs and flows.

Decisions about capital allocation help treasury pave the way for the road ahead and may take on added importance for businesses generating lots of cash—as well as for those whose growth is downshifting. Treasurers at a recent NeuGroup meeting of life sciences companies shared approaches to the challenges of allocating capital during a variety of scenarios and situations.

Optimal capital allocation amid uncertainty. One treasurer told the group that his team is taking “a step back” to consider the optimal capital structure for the circumstances facing his life sciences company, including binary events where the outcome is either a win or a loss:

  • A patent challenge that could lead to generic competition earlier than anticipated on a top-selling drug.
  • Waiting for the FDA to approve or reject a new drug that could significantly broaden the product line.
  • Bonds maturing and a revolving credit facility up for renewal in 2020.

Flexibility desired. Given the number of possible outcomes, the treasurer wanted to position the company to have “balance sheet flexibility.” He asked how others in the group are looking at leverage to construct a capital structure flexible enough to “do large business development” but not carry “too much cash.”

  • After considering various scenarios, the treasurer is considering raising the company’s leverage while avoiding having its ratings lowered.
  • If it were just up to him, he would let the company’s revolver expire and not renew it because of a considerable cash balance and the fact that its capital markets issuance will likely be limited to “one big bond deal” in the next five years.
  • He’s confident that given the company’s credit rating he will almost always be able to access the capital markets—or obtain funding through banks, based on the large number of them soliciting business.
  • About a month after the meeting, the company’s board authorized a $5 billion stock repurchase program, “adding additional share repurchase capacity to the toolbox,” he said.

Share buybacks. The subject of stock repurchase programs like the one approved by the company referenced above generated a range of commentary at the meeting, including one member who said life sciences companies that are enjoying a surfeit of cash because of large profit margins often decide to buy their own stock because if they don’t, “someone else”—an activist shareholder—will force them to do it.

  • The perceived threat of activist shareholders was among the reasons another treasurer at the meeting cited for actions his company took in the wake of selling an asset for billions of dollars a few years ago. “We did have some activists sniffing around because when you have that much cash, they want a return vs having it foolishly spent in the eyes of investors,” he said.

Adapting to change. This treasurer described the transition from “running the tanks fairly dry” in terms of cash before the sale of the asset to having a switch flipped, forcing the company to decide how to redeploy a surplus of cash. It considered business development, debt paydowns and shareholder returns. Contemplating the different combinations involved questioning the market’s view of the company’s identity. “Are we still growth pharma or are we something else,” the treasurer said. 

Seeking guidance. This company sought the advice of rating agencies and engaged with their advisory services as it weighed how much cash to keep. Because it had sold assets that were accretive to EBITDA, it elected to pay down billions of dollars in debt so its leverage ratio didn’t spike, focusing on term loans that allowed the treasurer to “delever the balance sheet quickly.” He added that EPS dilution is another issue to consider when a company sells accretive assets and contemplates share buybacks.

Dividend dynamics. In addition to expandingits share buyback program, this company decided to initiate a dividend (after deciding against a major acquisition). This, too, came after treasury consulted with credit rating agencies to make sure its ratings wouldn’t be lowered after initiating the dividend.

  • In discussing the size of dividends, one treasurer said that “no one cares” about a dividend that is too small. Another made the point that investors expect dividend growth and that once you start paying one “you can’t shut it off.” For that reason, a third person said that stopping a dividend can have bigger implications than curtailing a share buyback program.
  • One treasurer said his company was once considered a growth company by investors but not so much any longer; but it doesn’t pay a dividend, something investors expect from a value stock. He said this raises the risk that the company is viewed an “orphan”—one investors don’t know how to classify.

Communicating with shareholders. The company whose cash levels soared after selling the asset received lots of questions from investors, including activists. Leadership communicated its capital allocation plans and leverage ratio goals on earnings calls.

  • Another treasurer said addressing cash balances and capital allocation are major priorities, has discussed the issue with the board, and for the first time the company “verbalized” its capital allocation strategy on an earnings call and announced the initiation of a $1 billion stock buyback program. Management also stressed that investing in internal research and advancing the pipeline remains its top priority.

A pipeline priority, a cash flow model. One treasurer who described his pharmaceutical company’s capital allocation process and model emphasized that it starts with “the pipeline” and “how the business uses cash.”  He said that like other members, the goal is to have the flexibility to respond to business needs quickly by anticipating how much liquidity could be required for different scenarios. He noted that tax reform in late 2017 represented a milestone in the company’s approach to cash and capital allocation.

This cash flow-based model approach involves:

  • Examining the business’s R&D, M&A and collaboration needs.
  • Determining the right amount of leverage and desired credit ratings after establishing relationships with rating agencies.
  • After determining how much is needed to satisfy those cash flow needs, the company decides how much to allocate to shareholder returns through buybacks and dividends.

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Reimagining the Finance Future in 2020

Founder’s Edition, by Joseph Neu

Five items for finance leaders to focus on in 2020 and beyond.

2020 is upon us and the year itself has vision and foresight in its name. Accordingly, it affords us all an opportunity to seek clarity on not just what the year will bring but also a view of what’s in store for the new decade. For finance practice leaders, I see five issues to focus on starting this year and for the coming ten.

Founder’s Edition, by Joseph Neu

Five items for finance leaders to focus on in 2020 and beyond.

2020 is upon us and the year itself has vision and foresight in its name. Accordingly, it affords us all an opportunity to seek clarity on not just what the year will bring but also a view of what’s in store for the new decade.

For finance practice leaders, I see five issues to focus on starting this year and for the coming ten:

  1. Get serious about digital workers. There has been a lot of hype and fanfare, fits and starts when it comes to robotic process automation and AI in the finance function. But this is the year and decade where it starts to get real. And the finance function is a great petri dish to see how it grows because (1) much of what finance practitioners do is numbers or logic driven and (2) much of finance is seen as a cost center where productivity, scale and cost mitigation are critical, and, in the front office, speed and rapid processing of data gives machines an advantage. Starting this year, make sure you are scaling your human team and refocusing their work on where they can thrive by giving them digital assistants and co-workers to better support them.
  2. Be ready to phase out Libor. While you may think you have until the end of 2021 to prepare, the more important date may be when liquidity shifts from Libor-quoted instruments to those quoted in the secured overnight financing rate (SOFR) or other “ibor” replacement rates. Regulators will be deploying more stick than carrot now to ensure regulated institutions move off Libor and thereby incent the rest of the market to follow their liquidity and do the same. Corporates may see a similarity to the efforts to move derivatives to central clearing. While you won your exemption there, I still wonder about the liquidity premium you are paying to trade OTC. With Libor, I don’t think you will get an exemption beyond the ability to translate Libor references in commercial contracts to a common translation to SOFR, so you don’t need to renegotiate each one. Something like that for outstanding loan agreements made prior to a viable alternative reference rate being available might be helpful, too, but less likely. Be ready for when the market shifts.
  3. Think differently about bank relationships. The digital disruption of banks and financial services should accelerate this decade. With this happening, finance practitioners need to think differently about their bank relationships, the types of services they should expect from them and how they should pay for them. Different thinking about banks best starts with the credit relationship and a bank’s willingness to commit to a credit facility as the key driver of the relationship and allocation of spend (wallet). The promise of open banking and APIs to allow more seamless interoperability between providers, be they banks or non-banks, will not be fully realized until the paying for bank credit via other means fades away.
  4. Think differently about sources of funding. The digital disruption of funding and related corporate finance services goes hand in hand with decoupling bank relationships from credit commitments. Data and insight, plus predictive foresight about a firm’s business and resulting cash flows, current and potential, will increasingly drive credit analysis and access to funding. This will transform credit pricing and availability. How can you manage a bank wallet where the pricing and nature of credit and funding is transforming while the pricing and nature of services to pay for the credit and funding is similarly transforming at an exponential pace? You cannot do it, so don’t.
  5. Rethink the finance function. Considering all the above, including the replacement of a fundamental touchstone like Libor, it is hard to see how the finance function at the end of this decade should look the same as it does now. Especially if you consider all I haven’t said about digital transformation for all organizations and the finance functions to support them. Time to up the pace of change. There has been significant attention paid to reorganizing, optimizing and re-skilling the finance function in recent years, but it may be time for a clean sheet rethink of why a corporate finance function exists, what is seeks to accomplish, for whom and how best to go about this. At a minimum, many of the silos, especially between technical/specialist areas like treasury and tax, probably should be broken down. If you were to create a greenfield finance function at a start-up growing extremely fast, what would that look like? And would you let it evolve to one like a Fortune 100 company’s today or something much different? 

Seeing 2020 written, it seems to me like we should be closer to the imagined future than we are in too many ways. Let’s get caught up to the future we’ve imagined.

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CECL Important for Nonfinancial Companies, Too

Nonfinancial corporates extending credit must also prepare for CECL.

Calendar year companies must apply new accounting for credit losses at the start of the year, in Q1 2020 financial statements, and that includes nonfinancial corporate creditors engaged in a variety of transactions.

 

Nonfinancial corporates extending credit must also prepare for CECL.

Calendar year companies must apply new accounting for credit losses at the start of the year, in Q1 2020 financial statements, and that includes nonfinancial corporate creditors engaged in a variety of transactions.

The Financial Accounting Standards Board’s new current expected credit losses (CECL) methodology replaces the incurred-loss method, which recognizes losses when they become probable. CECL, instead, requires lenders to recognize credit losses expected over the life of a loan on day one, and while the new accounting standard has been mostly associated with banks, nonfinancial corporates engaged in credit arrangements will also be affected.

Tom Barbieri, a partner in PwC’s national office, said CECL may cover a range of corporate exposures, including trade receivables, employee receivables, where companies grant loans to employees, and credit guarantees. Rather than looking at historical loss rates, companies will have to consider current conditions and a reasonably supportable forecast in order to recognize upfront the credit losses expected over the life of the a loan.

More judgment. With trade receivables, for example, companies will have to try to anticipate the state of the economy over its forecast period as well as the state of the company the receivable is from and its specific industry. The longer a company’s forecast period, the more judgmental it becomes. “Corporate finance should be thinking about how it will determine those judgments and whether they’re reasonable, and quite frankly whether they’re explainable to the marketplace if the number is significant,” Mr. Barbieri said.

Business impact. The longer the life of the receivable, the higher the potential for losses and consequently the loss recognized upfront. Mr. Barbieri noted that may impact the life of receivables or other credit transactions companies engage in. “Those types of decisions will play a part in decisions going forward when companies extend credit,” Mr. Barbieri said.

A strange animal. Credit guarantees, where a company is guaranteeing that a joint-venture or other partner will repay its bank loans, are not funded loans. However, existing GAAP requires recording such guarantees at fair value on day one, and CECL adoption will require a reserve then. “So you have two liabilities on day one, which can be a bit counterintuitive for most nonfinancial services companies,” Mr. Barbieri said.

Sound controls. Treasury, accounting and other relevant parts of finance must jointly ensure that controls and procedures over the CECL process are sound, including the assumptions as well as the completeness and accuracy of data being used, Mr. Barbieri said.

Talk to your banks. Banks must also recognize upfront the potential losses on their loans, and that may impact the loans they provide. “When banks have higher CECL reserves, they’ll have to put away additional capital, and that may affect terms in loan agreements. Bank may be incented to provide shorter-term borrowerings,” he said.

Testing now. Companies with more sophisticated finances, especially longer dated ones, should probably have already started running the two accounting methods in parallel. “To the extent the CECL transition amount is material, it should be disclosed in year-end 10K reports.”

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Corporate Finance Ranks Most Concerned About 2020 Risks

What, me worry? Yes! Finance execs most worried about risks in the new year.

Corporate finance executives have jumped to the lead in terms of companies’ top executives concerned about the magnitude and severity of risks their organizations face in 2020, with economic conditions and regulatory scrutiny their top concerns.

What, me worry? Yes! Finance execs most worried about risks in the new year.

Corporate finance executives have jumped to the lead in terms of companies’ top executives concerned about the magnitude and severity of risks their organizations face in 2020, with economic conditions and regulatory scrutiny their top concerns.

On a scale of one to 10, chief financial officers’ impression of risk faced by their companies in the year ahead jumped to 6.5 from 6.0 in last year’s survey. That puts them in the lead from fifth place last year, out of seven categories of surveyed executives that comprised board members and six types of C-suite executives. Dr. Mark Beasley, professor and director of the Enterprise Risk Management Initiative (ERMI) at N. Carolina State University, noted that chief audit officers’ assessment of risk also increase noticeably from last year, and chief risk officers’ bumped up slightly, to 6.0 from 5.9.

Chief executives officers and boards of directors instead saw their concerns about risk lesson in this year’s study compared to last year’s.

The research was conducted by ERMI and consultancy Protiviti, and co-authored by Mr. Beasley and Ken Thomas, a managing director in Protiviti’s Business Performance Improvement practice. The survey received responses from 825 C-Suite executives and directors in companies across the globe. The top five concerns for CFOs were:

Economic conditions. Although the second concern overall, CFOs marked economic conditions starting to restrict some growth opportunities as their top concern, a big jump from last year’s survey when it was not even among the top 10 risks.

Regulatory changes and scrutiny. CFOs worry that an emphasis on regulations may increase and noticeably affect the manner in which their companies’ products and services will be produced or delivered. Mr. Beasley noted that the regulations extend beyond financial requirements to areas such as privacy, with European privacy regulations already in effect and those in California arriving in 2020, and increased government scrutiny of business models such as the big technology firms’.

Resistance to change. As innovative technology is deployed at an ever more rapid pace, CFOs are concerned about their organizations’ ability to embrace that change and remain competitive.

Top talent. Related to the previous concern, CFOs are concerned about their companies’ ability to attract and retain top talent in a tightening talent market, and consequently their ability to achieve operational targets. “How does [corporate finance] move from more production-type activities to more machine learning and other artificial intelligence technologies, taking people away from the analytics they used to spend time on and using that talent in the most efficient way,” Mr. Thomas said.

Cyber, of course. Pervasive across companies, cyber-risk concerns keep CFOs awake at night worrying about whether their organizations are sufficiently prepared to manage cyber threats that could significantly disrupt core operations and/or damage the company’s brand. Mr. Thomas noted that finance departments’ increasing use of technology-driven analytics ingests pulls data from multiple sources, heightening the risk. “Companies are moving to more tech-driven activities and operations that rely ever more on sources of data that can be impacted,” he said.

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Among Execs, CFOs Most Worried About 2020 Risks

CFOs are more worried about 2020 risks than others in the C-Suite: study.

Corporate finance executives are leading the pack in terms of company executives most worried about the magnitude and severity of risks to their organizations in 2020, according to a study by the Enterprise Risk Management Initiative (ERMI) at North Carolina State University and Protiviti.

On a scale of 1-10, with 10 being most concerned, chief financial officers’ impression of risk faced by their companies in the year ahead jumped from last year’s survey, up to 6.5 vs. 6.0 last year, putting them far ahead of their fifth-place slot last year. This is out of seven categories of surveyed executives made up of board members and six types of C-Suite executives.

CFOs are more worried about 2020 risks than others in the C-Suite: study.

Corporate finance executives are leading the pack in terms of company executives most worried about the magnitude and severity of risks to their organizations in 2020, according to a study by the Enterprise Risk Management Initiative (ERMI) at North Carolina State University and Protiviti.

On a scale of 1-10, with 10 being most concerned, chief financial officers’ impression of risk faced by their companies in the year ahead jumped from last year’s survey, up to 6.5 vs. 6.0 last year, putting them far ahead of their fifth-place slot last year. This is out of seven categories of surveyed executives made up of board members and six types of C-Suite executives.

Dr. Mark Beasley, professor and director of the ERMI, noted that chief audit officers’ assessment of risk also increased noticeably from last year, and chief risk officers bumped up slightly as well to 6.0 from 5.9. Meanwhile, chief executive officers and boards of directors saw their concerns about risk decrease in this year’s study.

The research was co-authored by Dr. Beasley and Ken Thomas, a managing director in Protiviti’s Business Performance Improvement practice. The survey received responses from 825 C-Suite executives and directors in companies across the globe.

The top five concerns for CFOs were: 

  • Economic conditions. CFOs saw economic conditions starting to restrict growth opportunities as their top concern, a big jump from last year’s survey when it was not even among the top 10 risks.
  • Regulatory changes and scrutiny. CFOs worry that an emphasis on regulations may increase and noticeably affect the manner in which their companies’ products and services will be produced or delivered. Mr. Beasley noted that the regulations extend beyond financial requirements to areas such as privacy, with European privacy regulations already in effect and those in California arriving in 2020, and increased government scrutiny of business models such as the big technology firms.
  • Resistance to change. As innovative technology is deployed at an ever more rapid pace, CFOs are concerned about their organizations’ ability to embrace that change and remain competitive.
  • Top talent. Related to the previous concern, CFOs are concerned about their companies’ ability to attract and retain top talent in a tightening job market, and consequently their ability to achieve operational targets. “How does [corporate finance] move from more production-type activities to more machine learning and other artificial intelligence technologies, taking people away from the analytics they used to spend time on and using that talent in the most efficient way,” Mr. Thomas said.
  • Cyber, of course. Pervasive across companies, cyber-risk concerns keep CFOs awake at night worrying about whether their organizations are sufficiently prepared to manage cyberthreats that could significantly disrupt core operations and/or damage the company’s brand. Mr. Thomas noted that finance departments’ increasing use of technology-driven analytics ingests pulls data from multiple sources, heightening the risk. “Companies are moving to more tech-driven activities and operations that rely ever more on sources of data that can be impacted,” he said.
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Deutsche Bank: Floating-Rate Debt’s Historical Attractiveness vs. Fixed Is Falling

A falling term premium suggests fixed-rate debt is a better bet for issuers; but the evidence is mixed.

Backtesting shows that issuing floating-rate debt has been cheaper than fixed-rate for corporates over the long run. But the co-head of Deutsche Bank’s risk management solutions team for North America told treasurers at a recent NeuGroup meeting that floating-rate debt currently does not look nearly as attractive relative to fixed as it once did.

“Whatever you thought about fixed vs floating before, on a relative basis, floating rate is less attractive,” Matthew Tilove, Deutsche Bank managing director, said in a follow-up interview. “Looking forward, it is hard to see how floating-rate debt can outperform fixed by the historical average of 200 basis points or more.”

A falling term premium suggests fixed-rate debt is a better bet for issuers; but the evidence is mixed.

Backtesting shows that issuing floating-rate debt has been cheaper than fixed-rate for corporates over the long run. But the co-head of Deutsche Bank’s risk management solutions team for North America told treasurers at a recent NeuGroup meeting that floating-rate debt currently does not look nearly as attractive relative to fixed as it once did. 

  • “Whatever you thought about fixed vs floating before, on a relative basis, floating rate is less attractive,” Matthew Tilove, Deutsche Bank managing director, said in a follow-up interview. “Looking forward, it is hard to see how floating-rate debt can outperform fixed by the historical average of 200 basis points or more.” 

Term premium falls. One basis for that conclusion—and a way to measure the relative attractiveness of floating vs fixed rates—is the term premium, the excess yield that investors require to commit to holding a long-term bond instead of a series of shorter-term bonds.

As the term premium rises, so does the attractiveness of floating-rate debt relative to fixed for issuers. But the term premium has been falling steadily and, Mr. Tilove notes, appears historically low. Reasons for this include very low inflation and demand for long-dated fixed-rate assets.

Mixed signals. The low level of the term premium, then, suggests that fixed-rate debt is relatively more attractive now than floating. In theory. I would say that every indicator that we could use to evaluate fixed versus floating is saying you should be fixed, given that there is currently the lowest term premium ever,” Mr. Tilove said.

  • “However, it is also the case that those indicators have sometimes been totally wrong,” he added. Most notably, term premium was also at a historical low a year ago, yet Deutsche Bank’s analysis shows that a year ago would have been among the best times to swap debt to floating. 

What gives? One possible reason for the current disconnect between the low term premium and the recent outperformance of floating-rate debt, Mr. Tilove said, is that the market simply failed to anticipate the decline in rates over the past year. Another possibility is that the standard models that seek to estimate the term premium are flawed. If this is the case, perhaps the term premium is not really as low as it seems, and floating-rate debt may indeed be expected to outperform fixed.

Bottom line. Despite the caveats and qualifiers, the takeaway remains that floating-rate debt does not offer the same cost-saving advantages it once did, which will come as no surprise to treasury teams that have been terminating fixed-to-floating-rate swaps and locking in ultra-low fixed interest rates as they refinance higher-yielding issues. Going forward, Mr. Tilove expects the term premium to return to more historical norms—meaning floating-rate will regain some of the luster it has lost. That said, he believes the term premium will be “permanently lower” in the future than in prior decades owing to changes in monetary policy, among other reasons.

Real world. But whatever happens with rates or term premiums, treasurers constructing a capital structure that best meets their companies’ needs have lots to consider, including cash flows, liabilities and the cyclicality of the business. All these factors—as well as their interest rate expectations—come into play when deciding the right proportion of fixed-rate vs. floating-rate debt.

As one NeuGroup member put it after hearing the Deutsche Bank presentation, the decision of whether to add more fixed-rate debt depends on the answer to the question, “What riddle are you solving with your risk management?”

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Taking a Leap: Learning to Become an Exponential Organization

Founder’s Edition, by Joseph Neu

Like so many companies, NeuGroup is rising to the challenge of becoming exponential.

The recent FinConnect event we helped facilitate for SoftBank’s Vision Fund I CFOs helped me to see NeuGroup’s own path to higher growth, thanks to the insights of the keynote speaker we enlisted (hat tip to Peter Marshall at EY). The speaker was the futurist Salim Ismail, author of Exponential Organizations.

 

Founder’s Edition, by Joseph Neu

Like so many companies, NeuGroup is rising to the challenge of becoming exponential.

The recent FinConnect event we helped facilitate for SoftBank’s Vision Fund I CFOs helped me to see NeuGroup’s own path to higher growth, thanks to the insights of the keynote speaker we enlisted (hat tip to Peter Marshall at EY). The speaker was the futurist Salim Ismail, author of Exponential Organizations.

  • Mr. Ismail advises companies on how to achieve exponential growth and thrive rather than be disrupted by digital technology and the transformative forces it is unleashing on almost every type of business. His research has identified 11 attributes that define exponential organizations (aka ExOs) or those likely to scale successfully.

What’s our MTP? According to Mr. Ismail, you need at least four attributes of an ExO to succeed and the most important is to have a massively transformative purpose (MTP), which is a higher aspirational objective that captures hearts and minds inside and outside the organization. TED’s “Ideas Worth Spreading” is one example.

We took a big step in this direction by being all about the success of our members and those who serve them to reach their full professional potential with connect, exchange and distill: Connecting you to share and learn, and distilling insight from those exchanges for mutual success. Yet, that’s not massively transformative enough, simple enough nor aspirational enough to grow to our potential. So look for this to change. 

Suppress the immune system. The other important takeaway is that to succeed with exponential thinking and achieve unthinkable growth you must overcome the immune system that exists in any organization, which not only resists change but works actively to kill it and stop the transformation from happening.

Knowing that this is the case in every organization makes it easier for me to lean into the effort to change—and it should help you change, too. Why not ask every stakeholder to help embrace a new, massively transformative purpose and help you fight the natural organizational immune system and transform your organizations?

Help us help you. We are here to help you do this. And since we value those who give to get, I am also asking you to help me transform NeuGroup to reach its full potential and embrace a more transformative purpose to connect all finance professionals who want to share and learn—not just peer group members—everyone, everywhere, in any way we can imagine.

Mutual value. In this way, we encourage every financial professional to help your companies become exponential organizations and embrace a digital mindset. This will also shift finance leaders from being naturally associated with being part of the immune system (e.g., “What you’re proposing is not in the budget plan.”)

  • We pledge to help you with our unique knowledge, insight and connections. And if you also help us scale our ability to source new connections and insight validated via knowledge exchange, we will in turn create more mutual value and wealth for our entire community—and the crowd beyond it that shares our mission.

Coming to this insight (don’t be afraid of a massively transformative purpose and realize that it is natural for the immune system in your organization to fight your effort to embrace exponential thinking) has been liberating.

  • I hope every organization reading this can, like me, be liberated and gain the confidence needed to transform. I expect 2020 to be the most transformative year of my entire career for everyone who is part of NeuGroup. 

Thanks for being a part of it.

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Preparing to Plow Through The Next Recession

How one company survived the Great Recession, and advice on how to prepare for the next downturn.

With an economic slowdown looming—even if no one knows exactly when it will occur or how severe it will be—companies must prepare for the worst. It doesn’t get much worse than the slump Caterpillar Inc. experienced in 2009, when sales and revenue plummeted. But the company remained profitable and maintained its dividend. How did Caterpillar achieve its remarkable performance?

How one company survived the Great Recession, and advice on how to prepare for the next downturn.

With an economic slowdown looming—even if no one knows exactly when it will occur or how severe it will be—companies must prepare for the worst. It doesn’t get much worse than the slump Caterpillar Inc. experienced in 2009, when sales and revenue plummeted. But the company remained profitable and maintained its dividend. How did Caterpillar achieve its remarkable performance?

Recession planning was the focus of a recent NeuGroup meeting, where Ed Scott, senior executive advisor at NeuGroup and retired treasurer at Caterpillar, discussed the global company’s recovery methodology. He also noted some questions for treasury executives to ponder before the storm hits:

  • What approach is your company taking to prepare for a possible recession?
  • What are your company’s critical success factors that must be protected?
  • What levers/workstreams are necessary to protect those factors?
  • What is treasury’s role in the company in planning for and fighting a recession?

During the Great Recession, Caterpillar’s sales fell 37% and its profit dropped to $895 million from $3.6 billion. The company took a $3.4 billion charge to equity, and debt as a percentage of debt and equity soared to 59.7%, well above the company’s preferred maximum of 45%.

Caterpillar’s single-A rating, necessary to fund its captive finance company, was in jeopardy. So the company pursued the MAST methodology, which Mr. Scott said can be applied to virtually any significant project or initiative:

  • Meaning. Why take action? For Caterpillar, it was to remain profitable, avoid cutting its dividend, and protect its rating.
  • Action. Establish workstreams, which in Caterpillar’s case numbered 10 and included reducing inventory, closely monitoring the financial health of critical dealers and suppliers, aggressively pursuing collections and increasing liquidity as needed. Mr. Scott noted that each workstream had a designated owner.
  • Structure. The cadence to make sure the plan is carried. Caterpillar’s CFO, treasurer and controller met every Friday at 6:30 a.m. with all the workstream leaders to review and document progress over the last week and discuss the week ahead. “Why so early? Because nobody has a meeting at that time, so everybody had to show up,” Mr. Scott said.
  • Truth. Metrics for each workstream were key to tracking progress and eventual success. “It’s very important to define the critical success factors and the metrics to achieve that,” Mr. Scott said. 

In terms of preparing for a recession, Mr. Scott said, analyzing how much sales will likely drop, or trough planning, is key, and pressure testing is also important. “Think about what the company could do if it had a 20% or 30% drop in sales,” he said.

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Group Therapy for FX Systems Pain: Misery Loves Company

FX managers for the most part like their systems. But there’s always that one thing that creates a headache.

Leo Tolstoy famously posited that “All happy families are alike; each unhappy family is unhappy in its own way.” That line from “Anna Karenina” can definitely be applied to treasury practitioners and their systems.

  • In a discussion at a recent NeuGroup meeting jokingly dubbed the systems “misery montage,” three FX managers members shared their biggest pain points, most of which derive from the fact that the FX function depends on several different systems vendors to manage the workflow end-to-end, and they don’t always “talk to each other” all that smoothly.

FX managers for the most part like their systems. But there’s always that one thing that creates a headache.

Leo Tolstoy famously posited that “All happy families are alike; each unhappy family is unhappy in its own way.” That line from “Anna Karenina” can definitely be applied to treasury practitioners and their systems.

  • In a discussion at a recent NeuGroup meeting jokingly dubbed the systems “misery montage,” three FX managers members shared their biggest pain points, most of which derive from the fact that the FX function depends on several different systems vendors to manage the workflow end-to-end, and they don’t always “talk to each other” all that smoothly.

Must-do automation projects and bot opportunities. First up, a member with a specialist risk and hedge accounting system lamented the lack of an automated way to exchange data between that system and SAP, particularly end-of-month valuations, currently done on Excel, and said that it’s a “huge project to map entity names and trading, hedge accounting, EMIR and Dodd-Frank reporting from that module to SAP in the way that accounting wants it.”

  • A second big pain point is the lack of automation in daily cash management, which relies too heavily on reporting instead. For aggregating balance sheet exposure data, another member suggested using a bot.

Map out pros and cons and ID alternatives. The second member shared a detailed table of workflow tasks and the pros and cons of the system used for those tasks at the time — including cost, reliability, service levels and internal IT needs — as well as possible alternative vendors for those processes, a handy way to analyze the situation.

  • One of his pain points was netting for settlements. He also called out various areas where the hedge accounting system was buggy, for example in trade valuation and the journal entry process, not to mention that the vendor provided “poor customer service” on top of a “lengthy implementation.” Still, the pain may not have risen to merit the cost and time of switching to one of the alternatives.

Vendor-client process fit? The final member to present showed her systems setup, which overall she was happy with. However, one link in the chain was problematic. The hedge accounting vendor was rather “inflexible” about wanting all the company’s exposures “in their tool and then they want to tell you what your trade should be,” the member said. “But we have our own exposure tool and it’s not our process [to outsource hedge decisions].”

One of the breakout huddles at the meeting also tackled systems and automation; some of the takeaways included:

  • How do you quantify the business benefits of robotic process automation, especially if you have to fight for IT resources to complete automation projects? And, as one member pointed out, automation does not equal head count reduction, so it’s hard to prove.
  • A straightforward systems implementation can be complicated enough, but companies faced with a steady stream of acquisitions — like many in the group — are always catching up.
  • M&A in the systems vendor space complicates things further, especially the customer service issues that have arisen from consolidation and dislocation in that industry.
  • Some keys to implementation success:
    • Thorough testing. Test every currency pair, every type of transaction, every counterpart with a penny-value transaction. “We found so many issues that way,” said a member with a huge systems transformation underway.
    • Resourcing. Work to get buy-in for the project as business-critical at the highest level possible in the organization. That increases the chances of an adequate budget and it will attract the best people to the project.
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Back to the Future: Making Banks a Source for Innovative Solutions Again

Founder’s Edition, by Joseph Neu
 
Working to reverse the notion that banks are no longer a source for innovative solutions.

One of the trends we’ve seen in interacting with NeuGroup members recently is their concern that banks are no longer the source for innovation or solutions that tap the most innovative technology and digital thinking.

And banks seem to be hearing this message, prompting them to respond to counter that perception. Unfortunately, some banks find it easier to respond with platitudes about how they are adopting new digital mindsets, embracing open APIs and investing in digital innovation centers, rather than to actually rolling out game-changing new digital solutions to corporate clients.

In addition, we see banks: 

Founder’s Edition, by Joseph Neu

Working to reverse the notion that banks are no longer a source for innovative solutions.

One of the trends we’ve seen in interacting with NeuGroup members recently is their concern that banks are no longer the source for innovation or solutions that tap the most innovative technology and digital thinking.

And banks seem to be hearing this message, prompting them to respond to counter that perception. Unfortunately, some banks find it easier to respond with platitudes about how they are adopting new digital mindsets, embracing open APIs and investing in digital innovation centers, rather than to actually rolling out game-changing new digital solutions to corporate clients.

In addition, we see banks: 

  • Talking about the impact of digital disruption. Some banks are seeking to go a bit further and speak to examples of how digitalization is disrupting their business. For instance, electronic trading platforms that reduce bid-ask spreads, direct listings of equity and debt issuance migrating to electronic platforms, which in turn encroaches on underwriting fees; and digital wallets displacing retail and, increasingly, commercial payments. Identifying these areas of disruption and how they are responding helps buy time.
  • Helping foster digital thinking. Another tact is for banks to present the work they are doing to spark digital thinking and innovation in their own businesses and use this as a path to follow for corporate finance functions to foster digital thinking and innovation within their own organizations. This may be useful, but not nearly as useful as implementing the results from this new thinking to help customers.
  • Creating their own digital/challenger banks. Banks of all sizes have launched or are in the process of launching digital challenger banks to compete with and to an extent disrupt their own legacy business. Often these digital banks are given resources to invest in their own greenfield platforms, utilizing newer digital technology and/or partnering with financial technology companies who have promising tech but lack bank trust, KYC and other regulatory compliance capabilities (or a license to operate in a desired financial market). 

Let’s not forget, though, that it can be very difficult for a bank, or any organization, to disrupt itself. According to Salim Ismail, author of “Exponential Organizations,” a best-selling book that identifies how companies succeed by embracing the disruptive forces of digital technology and grow exponentially, the reason is that every organization has a natural immune system that not only stands in the way of change but actively seeks to destroy the initiatives driving it. Banks are no exception.

For 2020, NeuGroup would like to work with banks who want to restore corporate customers’ confidence in them as a source for innovative solutions, beyond innovative thinking. One way to start the process is to ask each of our bank partners:

  • What is the most innovative solution that you have introduced in the last 12 months or plan to introduce in the next 12 months?
  • What corporate client problem does it solve? Why do you think it is innovative?
  • How did the solution come about, including what clients helped develop and test it?

We encourage our members to ask the partner banks the same.

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No More Libor-SOFR 101, Please! Treasurers Want Implementation Details

Treasurers say they need specifics on market conventions to complete the SOFR risk puzzle.

Many treasury teams don’t want any more bank presentations on Libor-SOFR transition timelines or the basics of risk and fallback language—they want details from bankers, regulators and industry groups on various market conventions.

  • These include how exactly SOFR term rates will be calculated in the cash markets, specifics on any compounding methodology, settlement conventions like lookbacks, and the spread adjustment from Libor to SOFR.
    • “We need details about the market conventions to communicate to the systems folks,” said one treasury practitioner on a NeuGroup members-only conference call this week, echoing other participants. “We want to start getting into the details so we can move forward with transition. But we have a lot of unknowns—I think everyone has these questions.”

Treasurers say they need specifics on market conventions to complete the SOFR risk puzzle.

Many treasury teams don’t want any more bank presentations on Libor-SOFR transition timelines or the basics of risk and fallback language—they want details from bankers, regulators and industry groups on various market conventions.

  • These include how exactly SOFR term rates will be calculated in the cash markets, specifics on any compounding methodology, settlement conventions like lookbacks, and the spread adjustment from Libor to SOFR.
    • “We need details about the market conventions to communicate to the systems folks,” said one treasury practitioner on a NeuGroup members-only conference call this week, echoing other participants. “We want to start getting into the details so we can move forward with transition. But we have a lot of unknowns—I think everyone has these questions.”

Calculation calculus. The answers to these questions will play a critical role, he explained, in pricing of financial instruments or simply knowing standard conventions to settle a transaction, among other issues dependent on the establishment of standards.

Fear of hedge ineffectiveness. Unknowns about spread adjustments, derivative protocols, and market conventions make assessing the impact on hedge effectiveness and the impact on the P&L difficult to assess at this point, one practitioner said. “The risks are known, there’s just not enough information now to quantify those risks,” he added.

Wait and see. Several treasurers on the call said they’re taking a wait-and-see approach to issuing or buying SOFR-denominated debt until there are more details and a track record. One such practitioner who said her company has done no planning for the transition said the company assumes there will eventually be a protocol process that will work.

  • There’s no upside to being a first mover,” one person on the call said. Liquidity is insufficient, he said, to swap to SOFR at an attractive price. Another participant said while his company has been pitched issuing a SOFR bond, it’s not going to do that. “We have been told there would be a market; we’ve chosen to wait that out,” he said.

Pain points. One company has investments in floating-rate debt that will mature after 2021, when using Libor as a reference rate is scheduled to end. “We don’t know the financial impact of the transition,” the treasurer said. “At some point I’m going to have a problem if issuers don’t update their fallback language.” He wants to know what his outside investment managers are doing to manage this concern.

  • This treasurer said he wants to avoid a “one-sided situation” and being “locked into something we don’t agree with.” For those reasons, he wants fallback language that can be amended based on the ultimate details of the Libor-SOFR transition but that doesn’t require redoing the entire document.

No windfalls. In the same vein, other treasurers said the fallback language cannot result in financial windfalls for the banks. “We have started discussions with banking partners,” one said. Another asked if anyone has agreements with their banks on determining economic equivalence between Libor and SOFR. He wants to make sure it “doesn’t create a windfall for either party.”

Discussing disclosure. After discussing the issue with its auditors, one of the companies on the call added a Libor-based risk factor disclosure to its 10-K, modelling it on other companies that had adopted “fairly generic” disclosures, according to one member. One treasurer said his company has been including disclosures in its financial statement about the unknown impact to liquidity from the transition.

Let sleeping dogs lie. On the subject of commercial contracts that include Libor, the consensus on the call was to not open up existing agreements—to let sleeping dogs lie. “Don’t open a Pandora’s box” if Libor is not material to the contract, one treasurer warned. At his company, Libor appears in the late fee part of contracts, which are rarely used and not material, he said.

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When Treasury Needs to Blow Its Own Horn

How metrics help treasury teams market their successes in good times.

Treasury teams get plenty of attention in financially volatile times, but in the good times their more mundane if still critical activities—reducing bank accounts, hedging foreign exchange, etc.—tend to go unnoticed.

  • “If we don’t convey the value treasury provides in good times and in bad, no one else will,” said Ed Scott, senior executive advisor at NeuGroup and former treasurer at Caterpillar, who co-led a recent NeuGroup meeting of assistant treasurers. He added, “The losers are your people who are not getting the credit.” 

How metrics help treasury teams market their successes in good times.

Treasury teams get plenty of attention in financially volatile times, but in the good times their more mundane if still critical activities—reducing bank accounts, hedging foreign exchange, etc.—tend to go unnoticed.

  • “If we don’t convey the value treasury provides in good times and in bad, no one else will,” said Ed Scott, senior executive advisor at NeuGroup and former treasurer at Caterpillar, who co-led a recent NeuGroup meeting of assistant treasurers. He added, “The losers are your people who are not getting the credit.”  

Develop metrics. One peer group member said his treasury department recently completed a treasury transformation, implementing a treasury management system (TMS), rationalizing banks and creating pooling structures. A year ago it began developing metrics to measure progress and determine what had been done correctly or not.

  • It’s all about the data. Pursuing metrics, he said, can’t be successful without “good, solid information.” Define, measure, analyze, improve and control, or DMAIC, is the Six Sigma methodology his team uses. “It’s all about quality and continuous improvement. That’s where the metrics help us go,” he said.

He displayed 14 metrics his team applies today under the categories of cash, currency, credit cards, bank fees and insurance, and he noted several others under consideration in areas such as treasury-staff productivity and financial metrics including hedging performance, FX spreads and cash-flow forecasting accuracy. 

Trends, not points in time. The member said viewing a metric at a point in time provides little value. Instead, analyzing the trend is “where you really start to learn what you’re doing, and it generates lots of questions about the process,” he said. He noted activity-based metrics, such as how many banks the company has or its cash balances, provide important information. The most critical metrics to drive improvement are performance-based ones, such as how many banks and bank accounts have been eliminated, or how much interest was earned.

CFO stories. Mr. Scott noted that reducing the number of bank accounts also cuts fraud, bank fees and labor costs. “So how do you translate those things into the story your CFO wants to hear? What’s the value of doing that?” he asked the group.

The presenting member said treasury must create and monitor meaningful metrics that make a difference in the business and are actually read by the C-Suite:

  • Focus. Report what’s most important.
  • Display. Use effective graphics to deliver the message.
  • Be concise. Deliver a clear, easy-to-understand message.
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Five Key Steps to Supporting Strategic CFOs

Founder’s Edition, by Joseph Neu

What direct reports can do to help a CFO—and themselves—climb the strategic stairs.

We recently facilitated an event for growth-company CFOs where a lot of discussion centered on how the CFO should help get things done by being a strategic partner of the founder or CEO. Playing this role has also become a priority at more mature companies.

  • Bottom line:  If you report to the CFO, you’ll want help make that person a true strategic partner—as you simultaneously become one yourself.

Founder’s Edition, by Joseph Neu

What direct reports can do to help a CFO—and themselves—climb the strategic stairs.

We recently facilitated an event for growth-company CFOs where a lot of discussion centered on how the CFO should help get things done by being a strategic partner of the founder or CEO. Playing this role has also become a priority at more mature companies.

  • Bottom line:  If you report to the CFO, you’ll want help make that person a true strategic partner—as you simultaneously become one yourself.

For starters, focus on these five areas:

  1. Excellence inside and outside the box. The key takeaway is that CFOs have to be good at operating outside of the core finance function, or box, to be successful. That means they must have people they can rely on to handle what’s inside that box. So make sure the finance box functions phenomenally so that you, too, can support the CFO’s work outside it.
     
  2. Hire well and develop talent fast. To increase their span of control and become a strategic partner, CFOs need to hire the right people at the right time for key finance areas. That may always be true, but CFOs tend to struggle when they don’t recruit the right people at the right time for what’s needed next. Smarter hiring will let you take that next step.
    • The need to develop talent fast is in part generational, as millennials expect to progress faster. There’s also a supply-and-demand curve issue skewing finance talent younger. “Senior roles are filled by professionals, on average, six years younger than a decade ago,” a West Coast-based executive recruiter who specializes in finance executives said. A lack of supply for finance professionals with the right experience means that they have the ability to move up quickly. If you don’t promote them, they will leave. Your head of FP&A is someone else’s CFO. Don’t let that happen.
  3. Cultivate a direct line to the board. CFOs need to have a direct relationship with the board, usually with the chair of the audit committee, who can act as a sounding board, coach and networking advisor. Give them what they need to make the most of their board interaction and, as a key direct report, cultivate your own board relationships so that you are in the running as a successor.
    • Hint: The first step might be with a specialty sub-committee or advisory board. Start building your own network of advisors to make you a better and more valuable part of the CFO’s finance team.
       
  4. Set up solutions. A strategic CFO shows that he or she can offer more than information by proposing potential solutions and advancing the team to the 5-yard line, making it easier for the CEO to score the touchdown. Make it easier for the CFO to do this. Don’t be a passive data collector, but instead drive to solutions and, where appropriate, proactively take action.
     
  5. Be proactive about data as an asset. At more companies, data is becoming one of the most valuable assets; or it’s at the top of the list. Even if it’s not yet on the balance sheet, help the CFO to manage data well, leverage it for better decisions, and monetize it both to generate new revenue for the business but also as an asset with which to secure new capital.

Focus on these five things and you’ll likely see the strategic importance of the CFO’s role rise, and with it the strategic value of your role as controller, head of FP&A, vice president of corporate finance/treasurer, or chief audit executive.

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Prepare for a Surging Green Wave of ESG Products

By Joseph Neu

BNP Paribas highlights a veritable tsunami of sustainability-linked finance products.

 
“Treasurers should be preparing for a tsunami of sustainability-linked finance products,” one NeuGroup member treasurer told me recently in response to market events of the last year. To underscore the importance of that notion, Hervé Duteil, chief sustainability officer for BNP Paribas in the Americas, presented his view to NeuGroup’s Tech20 Treasurers’ Peer Group last month. He described three big waves, or “revolutions,” in sustainable finance:

By Joseph Neu

BNP Paribas highlights a veritable tsunami of sustainability-linked finance products.
 

“Treasurers should be preparing for a tsunami of sustainability-linked finance products,” one NeuGroup member treasurer told me recently in response to market events of the last year. To underscore the importance of that notion, Hervé Duteil, chief sustainability officer for BNP Paribas in the Americas, presented his view to NeuGroup’s Tech20 Treasurers’ Peer Group last month. He described three big waves, or “revolutions,” in sustainable finance:

1. Labelling the “use of proceeds.” This wave is most famous for green bonds, and it continues with Apple’s sizable euro-denominated green bond issue last month, but also includes other labelled or “thematic” bonds (or loans) for green, social, sustainable, sustainable development goals (SDG), and now transition financing. The guiding principle is that the use of proceeds from these loans is identified, or labelled, as being used for something specific to sustainability.

2. Linking returns with sustainability performance and impact. This wave’s focus is on sustainability impact and performance (with measurable KPIs) and originally driven by bank lenders.

  • Supply chain finance: This wave likely began in 2016 with sustainable supply chain financing, where the discount factor applied to supplier invoices is linked to sustainability performance verified over time—i.e., do right and you get paid earlier for less of a discount.
  • Loans and credit facilities: The wave has further extended to longer-term financing (mostly revolving credit facilities) in the form of sustainability-linked loans (SLLs), where the interest rate moves up or down in line with the achievement of sustainability performance targets, such as ESG score, greenhouse gas emissions, water intensity, waste intensity or gender ratios.
  • Swaps: The concept of a variable coupon tied to sustainability performance was also embedded in a swap derivative in August and more recently when BNP Paribas structured the first ESG-Linked FX forward swap for Siemens Gamesa.

3. Linking cost of risk (and funding) to sustainability performance and impact. The subtle difference between this and the second wave is that while in the former banks are accepting a lower return for sustainability gains, in the latter it is about investors asking to be compensated for the increased risk—credit or operational—from poor sustainability performance.

The risk-cost argument is likely to have an increasing impact. For one, rating agencies are starting to speak to a more formalized integration of ESG risk factors into credit assessments. This sets up a tension for them that was revealed at our Tech20 Annual Rating Agency Breakfast:

  • To what extent can issuers say that ESG is embedded in their normal rating as opposed to paying for a separate ESG rating? There is not yet a clear answer, other than that ESG factors have always been part of your credit ratings and they will continue to be a factor.

Banks have another risk-cost consideration. While banks have the same inclination as investors to steer the world in a more sustainable direction, they also are looking to strengthen the resilience of their corporate lending model and hedge their loan portfolios against systemic risks such as the emergence of carbon taxes or higher capital adequacy ratios for credit extended to carbon-intensive sectors (see BIS white papers and other central bank research for discussions of putting a higher RWA on credit products for unsustainable or so-called “brown” counterparties).

  • An asymmetric risk profile: This raises the point about the asymmetric nature of sustainability risk, i.e., providers and users of capital will increasingly be penalized from a cost of capital standpoint for brown activities more than they are rewarded for continuing to promote sustainable policies, supporting high ESG scores and acting green.

It will be interesting to see how quickly sustainability-linked finance shifts from rewarding do-gooders to imposing costs on firms that need to transition to become better ESG citizens. Such a move may create something of a catch-22, especially for capital-intensive businesses like oil and gas, mining and heavy industries.

Accordingly, BNP Paribas’ Mr. Duteil sees transition finance as a necessary extension of green finance. It would apply to sectors that (1) are not green today; (2) cannot become green tomorrow; (3) but can and need to get greener (by which we mean less brown) faster; at a pace likely in line with recognized sustainable development scenarios; or at least within the scope of a disclosed comprehensive strategy road map that will get them back in line within an acceptable time frame.

It’s either this or making laggard firms easier targets for disruption by increasing their risk-adjusted cost of capital.

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ION Treasury’s Cross-Product Solutions Strategy Reassures Some TMS Clients

Company is highlighting innovations that work for all seven of ION’s treasury management systems.

In the latest example of its cross-product, multi-brand strategy, this month ION Treasury is launching a cash forecasting solution powered by machine learning for its Reval and ITS treasury clients. ION says the strategy is to build solutions like this once and deploy them to all of its treasury brands, including Wallstreet Suite, Treasura, IT2, Openlink and City Financials.

Cross-product solutions. The cash forecasting solution fits into ION’s road map of introducing innovations across its TMS portfolio, a strategy the company has actively shared with customers at a series of client meetings across the globe this year. The meetings—following a string of acquisitions that initially concerned some clients—are part of the company’s “unification” effort, ION Treasury CEO Rich Grossi said in a recent interview with NeuGroup Insights.

  • “The big message to our customers is our strategy will continue to focus on product innovation within each of our solutions, but we will also provide greater value from the larger portfolio of ION solutions,” Mr. Grossi said. “At our conference, we launched several cross-platform solutions as a proof point of our strategy. Overall, I believe our customers understood the vision and saw great benefit in our new offerings.”

By Antony Michels

Company is highlighting innovations that work for all seven of ION’s treasury management systems.

In the latest example of its cross-product, multi-brand strategy, this month ION Treasury is launching a cash forecasting solution powered by machine learning for its Reval and ITS treasury clients. ION says the strategy is to build solutions like this once and deploy them to all of its treasury brands, including Wallstreet Suite, Treasura, IT2, Openlink and City Financials.

Cross-product solutions. The cash forecasting solution fits into ION’s road map of introducing innovations across its TMS portfolio, a strategy the company has actively shared with customers at a series of client meetings across the globe this year. The meetings—following a string of acquisitions that initially concerned some clients—are part of the company’s “unification” effort, ION Treasury CEO Rich Grossi said in a recent interview with NeuGroup Insights.

  • “The big message to our customers is our strategy will continue to focus on product innovation within each of our solutions, but we will also provide greater value from the larger portfolio of ION solutions,” Mr. Grossi said. “At our conference, we launched several cross-platform solutions as a proof point of our strategy. Overall, I believe our customers understood the vision and saw great benefit in our new offerings.”

Reassuring clients. Anecdotal feedback suggests ION’s message is resonating, at least with some clients. Several NeuGroup members who are users of Reval and other ION systems say they learned important details at the client events about ION’s game plan after a period of relative silence and personnel disruptions as the company acquired and absorbed more TMS providers.

  • One NeuGroup member who did not like the company’s lack of communication following acquisitions spoke positively about the event she attended. “During the user conference, they laid out a well-thought-out strategy that was the first time we’ve ever really heard their strategy, and it all really made sense.”

Investing, not acquiring. “They specifically talked about how they are all done acquiring their core systems,” the member said in explaining her takeaways from the conference. “Their strategy now is to invest across products through ancillary solutions that can lay over these core solutions. Like bank connectivity, bank fee analysis, bank account management, money market fund portals, machine learning, mobile access. So that was encouraging.”

  • In October, ION announced the rollout of a bank fee analysis tool, part of its bank account management solution called IBAM. Looking ahead, Mr. Grossi said the company plans to introduce cross-product solutions involving clients’ connections to banks as well as other tools that make use of artificial intelligence and machine learning. All will ultimately be available to each TMS brand.

Client communication portal. As a final example of the company’s evolution and unification, Mr. Grossi described an online client communication portal for all ION users. “This tool allows clients to connect to receive updates on their software, to view road maps, to share our knowledge with other ION Treasury community users, to get information around the software, to report issues, to get documentation, to do some self-service. A really powerful tool that is exposed now to our larger community and not just a specific customer within.”

The road ahead. More than one NeuGroup member said while they liked what they heard, the jury is still out on the execution of the plan. One such member is eager to hear more about ION’s connectivity solutions. “I really want to see them do something around connectivity. That space is changing so quickly now. There’s definitely more solutions coming in that space through APIs. I’d really like to see that really be an area they invest in. That could be very transformative.”

  • Mr. Grossi says the company is listening closely to what clients want and partnering with them to make those solutions a reality. “We have a really powerful opportunity to advance our solutions. There is work to do, but I think this year was a real inflection point for us as it relates to not only communicating but demonstrating where we want to be from a from a solution provider point of view.”
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Chatham Financial Bolsters Euro Expertise with JCRA Acquisition

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk.

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk at a time when multinationals are mulling euro-centric issues like Brexit and negative rates.

Chatham has mainly grown organically and now has more than 650 employees worldwide, including 90 in its London and Krakow offices. The acquisition of independent risk advisor JCRA Group will increase its European staff by more than 50%, bringing on experts who, similar to Chatham’s staff, specialize in hedging and debt capital markets advice.

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk.

Chatham Financial recently announced that it has acquired a similar advisory firm headquartered in London, deepening its expertise in European derivatives and capital markets and related risk at a time when multinationals are mulling euro-centric issues like Brexit and negative rates.

Chatham has mainly grown organically and now has more than 650 employees worldwide, including 90 in its London and Krakow offices. The acquisition of independent risk advisor JCRA Group will increase its European staff by more than 50%, bringing on experts who, similar to Chatham’s staff, specialize in hedging and debt capital markets advice.

“One of Chatham’s purposes is to help make markets transparent, accessible and fair for all market participants. We’re excited about how, together with JCRA, we can have an even greater impact,” said Clark Maxwell, chief executive officer of Chatham.

Chatham pursued the acquisition primarily to increase its presence and breadth of expertise in Europe. At times it has competed with JCRA for business, but the firms tend to service a different corporate client base, according to Amol Dhargalkar, managing director at Chatham.

“The UK will remain one of the largest economies in the world and home to some of the most iconic and significant companies,” Mr. Dhargalkar said.

Sharing wisdom. Chatham has sought to apply the collective wisdom gained by serving thousands of clients in each engagement, enabling better, faster decisions. JCRA holds a similar philosophy with its mostly European client base, a benefit to Chatham’s existing customers dealing with issues impacting UK and eurozone derivative and capital markets.

“The merger will allow us to serve global clients facing challenges related to Europe even better, whether pricing on cross-currency swaps, nuances related to Brexit, negative rates, or accounting standard changes and the differences in applying US and international standards,” Mr. Dhargalkar said.

And technology. JCRA customers will, of course, have access to the collective wisdom of Chatham’s clients. In addition, the company has been one of the few firms providing advisory and operational support, as well as a technology platform supporting the accounting treatment, risk-analysis calculations and valuations for multiple asset classes. “We started our technology journey a long time ago and continually invested in it,” Mr. Dhargalkar said, adding, “Our combined team is excited to be offering the ChathamDirect platform and its capabilities to the European market.”

 

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Virtual Accounts—Not Ready for Prime Time?

 Notes from a discussion on a product that treasurers would like to use—when it’s truly ready.

A presenter from Societe Generale at a recent NeuGroup Global Cash & Banking Group meeting said this about virtual accounts (VAs): “Imagine a world where you can open and close accounts at a moment’s notice, set up zero balance account (ZBA) structures, and not deal with KYC. That’s where banks imagine virtual accounts to end up.” This is the ideal world. That is:

  • They’re like ZBAs in the US with all the reporting behind them, but they’re not real accounts; they exist on a book- basis only and can send money to all your entities.
  • One member has been told VAs will allow them to close approximately 2,000 bank accounts and cut account costs by 40%.
  • Could VAs work better than an in-house bank? Several members are looking at VAs as an alternative to IHBs.

Notes from a discussion on a product that treasurers would like to use—when it’s truly ready.

A presenter from Societe Generale at a recent NeuGroup Global Cash & Banking Group meeting said this about virtual accounts (VAs): “Imagine a world where you can open and close accounts at a moment’s notice, set up zero balance account (ZBA) structures, and not deal with KYC. That’s where banks imagine virtual accounts to end up.” This is the ideal world. That is:

  • They’re like ZBAs in the US with all the reporting behind them, but they’re not real accounts; they exist on a book- basis only and can send money to all your entities.
  • One member has been told VAs will allow them to close approximately 2,000 bank accounts and cut account costs by 40%.
  • Could VAs work better than an in-house bank? Several members are looking at VAs as an alternative to IHBs.

The real world: The first hurdle is payables. Certain banks can open a series of accounts down to four tiers and only take receipts. Banks are still trying to build out the payables side. And from the banks’ point of view, the greatest interest is in using the accounts for notional pooling.

  • One member said there is a reconciliation issue—intercompany loans are not trackable in an automated fashion and only reported on the physical account, a big limitation. Once that’s resolved, they could potentially have an automated loan process. Another member said the biggest implementation hurdle of the VA model is intercompany loans.
  • You can only open VAs in certain countries where the bank allows it, so they may or may not be compatible with your treasury structure.
  • One member has been attempting to get rid of bank accounts and implement POBO and ROBO by leveraging VAs in SAP. However, VAs have proven more painful than the company hoped.
  • SAP is the system of record. Unfortunately, banks in this process like to have their system be the record of who owes whom, “which doesn’t work for our business,” the member said.
  • Another member tried to do virtual accounts in India; the company’s first attempt didn’t go well.

VAs in China

  • One member talked to three banks and sees the potential beauty of using VAs for payments in China: When you pay into China, you must pay a beneficiary and not someone else, so the VA structure would work.
  • The problem: VAs are not allowed in China and are not accepted by the PBOC for payments. Cross-border payments for China are always physical.
  • Banks said they can do cross-currency, but the member would need a pre-agreed FX spread with them (usually not a good one).
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Concerns About the Transition from Libor to SOFR

Treasurers aren’t too happy about the fallback language for the Libor-to-SOFR switch.

Members at a recent NeuGroup meeting used some colorful language in discussing the challenging issue of changing fallback language in contracts that currently use Libor, the benchmark rate that’s scheduled to disappear after 2021.

The wording needs to specify what rate will replace Libor when it’s gone, what triggers the switch, and the pricing spread adjustment between Libor and the successor rate to account for differences between the two benchmarks.
Prepare for battle? One treasurer bemoaned the fact that regulators seem to “hope that people can agree” on the terms of fallback language and warned, “At worst, every contract could be hand-to-hand combat.”

(Editor’s Note–published November 29, 2019)

Treasurers aren’t too happy about the fallback language for the Libor-to-SOFR switch.

Members at a recent NeuGroup meeting used some colorful language in discussing the challenging issue of changing fallback language in contracts that currently use Libor, the benchmark rate that’s scheduled to disappear after 2021.

  • The wording needs to specify what rate will replace Libor when it’s gone, what triggers the switch, and the pricing spread adjustment between Libor and the successor rate to account for differences between the two benchmarks.

Prepare for battle? One treasurer bemoaned the fact that regulators seem to “hope that people can agree” on the terms of fallback language and warned, “At worst, every contract could be hand-to-hand combat.”

  • Behind that potential battle, of course, is the proposed transition in the US from Libor to the secured overnight financing rate (SOFR), a so-called alternative reference rate recommended by the Alternative Reference Rates Committee (ARRC). SOFR is a broad measure of the cost of borrowing cash overnight collateralized by US Treasury securities—the repo market.
  • A report from consultant EY describes issues that could fuel the combat: “The transition to [SOFR] may require renegotiating the spread due to the differences between LIBOR and [SOFR], such as credit and term premiums. If a bank comes up with its own approach for redefining the spread for its variable-rate instruments, the counterparties may find themselves on the losing end of the transition—which could lead to legal challenges and reputation damage.”

No term rates—yet. As an overnight rate, SOFR is not a direct replacement for Libor, which is typically quoted for one-, two-, three-, six- and 12-month terms. And one treasurer at the meeting said the biggest issue in his mind is the lack of SOFR term rates. He said when that issue is resolved, corporates will get serious.

  • But another treasurer noted that the ARRC has warned market participants not to wait for forward-looking term rates to develop before transitioning from Libor to SOFR.

Give your feedback. In early November, ARRC welcomed the release of a proposed publication of SOFR averages and a SOFR index. The New York Fed is requesting public comment on this so-called consultation by Dec. 4.

  • The consultation proposes the daily publication of three backward-looking, compounded averages of SOFR with tenors of 30, 90 and 180 calendar days. It also proposes a daily SOFR index to help calculate term rates over custom time periods. It plans to initiate publication of the averages in the first half of 2020.

SEC disclosure. In a final point about Libor’s demise, one treasurer noted that the Securities and Exchange Commission this summer gave guidance on responding to risks associated with Libor’s end. The statement says, “The risks associated with this discontinuation and transition will be exacerbated if the work necessary to effect an orderly transition to an alternative reference rate is not completed in a timely manner. The Commission staff is actively monitoring the extent to which market participants are identifying and addressing these risks.”

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Cloud Accounting May Require New Controls, Impact Covenants

Treasury executives whose companies are relying more and more on cloud services should confer with their accountants.

Companies are increasingly choosing treasury management systems (TMSs) and other applications via the cloud rather than installing the software in their own data centers. The Financial Accounting Standards Board’s (FASB) new accounting standard aims make the accounting between the two approaches more similar by requiring companies to defer and amortize cloud-related costs rather than expensing them right away, as they do under current accounting.

“For companies that have these [cloud] arrangements, they will have to defer certain of those implementation costs to future periods, and that could impact some covenants, whether free cash flow, EBITDA, and other metrics,” said Sean Torr, managing director of Deloitte Risk and Financial Advisory.

Treasury executives whose companies are relying more and more on cloud services should confer with their accountants about new requirements that potentially could impact loan covenants as well as operational elements tangentially affecting treasury.

Companies are increasingly choosing treasury management systems (TMSs) and other applications via the cloud rather than installing the software in their own data centers. The Financial Accounting Standards Board’s (FASB) new accounting standard aims make the accounting between the two approaches more similar by requiring companies to defer and amortize cloud-related costs rather than expensing them right away, as they do under current accounting.

“For companies that have these [cloud] arrangements, they will have to defer certain of those implementation costs to future periods, and that could impact some covenants, whether free cash flow, EBITDA, and other metrics,” said Sean Torr, managing director of Deloitte Risk and Financial Advisory.

On the plus side, said Chris Chiriatti, audit managing director at Deloitte & Touche, some companies may have avoided software as a service (SaaS) solutions if there was a sizable initial investment because under current accounting they have to expense those costs immediately. “Now they can defer those costs, and it may open up opportunities to use the cloud,” he added.

Challenges. One of the more challenging aspects of addressing the new accounting, according to Mr. Torr, is that management must exercise judgment over the costs to be capitalized. In addition, internal controls will be required to ensure that the capitalized costs are amortized to the P&L over the appropriate term.

“Additional processes and controls may have to be put in place to correctly identify the costs that need to be capitalized under the new standard,” Mr. Chiriatti said. He added that since under existing accounting a lot of those costs were expensed as incurred, companies didn’t need processes to identify and scrutinize their activities.

New controls. Under the new standard, companies entering into cloud contracts frequently and those with decentralized organizational structures should consider whether internal controls are sufficient to handle all cloud arrangements. Additionally, organizations should consider internal controls to ensure management’s judgment is consistently applied and costs are being capitalized appropriately. If those judgments are being made in a decentralized fashion, “then the rigor of the control needs to be greater,” Mr. Torr said, adding that companies will also have to have controls around what information they disclose in financial statement footnotes.

Companies may already have frameworks in place to determine what gets capitalized or expensed if they’ve built solutions on premise. However, for companies that have aggressively pursued cloud solutions, the framework may have gathered dust and become outmoded. “So for those companies there might be additional work because they may not have the processes currently in place that they can leverage,” Mr. Chiriatti said.

Effective date. The accounting goes into effect Jan. 1, 2020, for any company currently deploying software to the cloud, buying cloud services or presently incurring cloud implementation costs. Companies can adopt the standard early for any quarters they have yet to issue financial statements for.

Lining up accounting practices. Mr. Chiriatti noted that from a functional standpoint today there’s little difference between a company using software in the cloud or in its own data center, and that was a major factor prompting the accounting standard-setters to conclude that the deferral model should be the same for both situations.

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The Value of Treasury Finance to Growth Company

Founder’s Edition, by Joseph Neu

When venture capital isn’t enough, you need a treasurer.

Growth companies looking to disrupt industries outside software and pure internet plays (which are already mostly disrupted) can have significant capital needs. This is why traditional venture capital needs to be supplemented with new types of investors and innovative ways to access capital markets. Given the cost of equity, pre-IPO, non-investment grade, un-rated companies needing capital have to be creative about debt financing.

Founder’s Edition, by Joseph Neu

When venture capital isn’t enough, you need a treasurer.

Growth companies looking to disrupt industries outside software and pure internet plays (which are already mostly disrupted) can have significant capital needs. This is why traditional venture capital needs to be supplemented with new types of investors and innovative ways to access capital markets. Given the cost of equity, pre-IPO, non-investment grade, un-rated companies needing capital have to be creative about debt financing.

This puts a new spin on the need for a treasurer with solid capital markets experience to serve as head of corporate finance for a growth-company CFO wearing multiple strategic hats. Growth companies that can’t afford to bring one in-house should have access to one on an on-demand basis.

That capital markets experience should include:

  • Wide-spectrum asset-linked securitization. Disruptive companies often have unique assets and monetization strategies to spin off cash flows that require a visionary mind that can bundle them into financial securities. They need finance talent with experience working on such problems, identifying opportunities and packaging them properly. These asset-linked financings may start with AR factoring, but quickly move to contracted revenue securitization, for example, and even rights to cash-flow streams from future data monetizations.
  • Relationships with debt financing innovators. Treasury’s role as chief bank relationship officer can also be useful, to the extent it includes meaningful connections with incumbent banks and bankers who go against trend to be innovative. Yet it also must include relationships with creative finance minds who’ve left the incumbents to join fintechs, capital advisory firms and investor groups. These relationships often are critical to getting needed funding or funding with a sub-10% cost of capital versus a 40%+ dilutive equity round.
  •  A contingency/opportunistic financing mindset. While most treasury professionals understand that the best time to arrange for financing is when you don’t need it, growth companies need to take this thinking to the extreme. They continually need to look to expand the number of current and contingency funding sources for the capital plan to keep growing as well as funding and liquidity options to tap to survive in a stress scenario or crisis event. 

But the treasurer also needs to be capable of executing the basics:

  • Expand the funding toolkit. “From the earliest stages of a startup, the finance team needs to think about expanding their financing toolkit so that the number of funding sources keeps growing, from 2-3, to 5-6, 6-10, to 16 or more,” says Kurt Zumwalt, former treasurer of Amazon.com and NeuGroup member who’s more recently been advising growth companies.
  • Build a bank group. Start early to build what will become long-term relationships. “As soon as you can build a traditional bank group, so much the better, as bank credit opens avenues to more sources of funding,” notes Neil Schloss, former treasurer of The Ford Motor Company and CFO of Ford Mobility (and NeuGroup member). Plus, more banks are thinking creatively about lending opportunities; so why not target those banks for your facility?
  • Instill a cash culture. Finally, a professional with treasury experience, especially in a high-leverage environment will appreciate the importance of free cash flow and instilling a cash culture throughout the business and finance operations.

NeuGroup can help connect you with one if needed.

Perennial value of free cash flow. Any form of debt financing requires cash flow generation to service it—and it helps if it is cash available after capex and other critical outlays. Equally important, as mindsets shift from revenue and user growth to profitability as drivers of enterprise value, the ability to generate free cash flow does more than improve firm borrowing capacity, it creates a better overall valuation, too.

This renewed focus on cash flow for funding a firm to reach its private value potential with debt and realize its full initial public market value should put treasury finance expertise in demand earlier at growth companies.

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Pushing Responsibility for Risk Gets Results

Sometimes you have to assign risk to reluctant BU leaders to get their attention.

Complying with internal audit’s requests isn’t always front and center in terms of business leader priorities. But prompting them to accept responsibility for identified risks can change that.  

In a lengthy discussion at a recent meeting of NeuGroup’s Internal Auditors’ Peer Group, members discussed the inadequate funding internal audit (IA) often receives to perform its function as well as the sometimes-low priority business leaders can give to complying with IA’s requests. The discussion was kicked off by one member noting that his company’s risk-committee chairman had challenged management to inform the board about the risks they’ll be accepting in the business. 

Sometimes you have to assign risk to reluctant BU leaders to get their attention.

Complying with internal audit’s requests isn’t always front and center in terms of business leader priorities. But prompting them to accept responsibility for identified risks can change that.  

In a lengthy discussion at a recent meeting of NeuGroup’s Internal Auditors’ Peer Group, members discussed the inadequate funding internal audit (IA) often receives to perform its function as well as the sometimes-low priority business leaders can give to complying with IA’s requests. The discussion was kicked off by one member noting that his company’s risk-committee chairman had challenged management to inform the board about the risks they’ll be accepting in the business. 

A plan is hatched. Recognizing an effective approach, the chief information security officer (CISO) sent an email to the COO, who had prov