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Pandemic Stokes Fire of Rising D&O Insurance Premiums

Corporates see no relief as insurers take a hard line on renewals amid rising fears of COVID litigation.
 
Premiums for directors and officers (D&O) insurance are surging, a pain point discussed at several NeuGroup meetings this spring, including the Tech20 Treasurers’ Peer Group and the Life Sciences Treasurers’ Peer Group.

  • Premiums were already on the rise at the beginning of the year and now, amid the pandemic, they continue to rise. That’s in part because COVID-19-related D&O claims are already being filed in US courts.

Corporates see no relief as insurers take a hard line on renewals amid rising fears of COVID litigation.
 
Premiums for directors and officers (D&O) insurance are surging, a pain point discussed at several NeuGroup meetings this spring, including the Tech20 Treasurers’ Peer Group and the Life Sciences Treasurers’ Peer Group.

  • Premiums were already on the rise at the beginning of the year and now, amid the pandemic, they continue to rise. That’s in part because COVID-19-related D&O claims are already being filed in US courts. 

Big percentage increases. During Tech20’s recent virtual meeting, members said they were seeing premiums rise by between 25% and 70%. According to insurance broker Marsh, rates on D&O policies in the US rose 44% on average in the first quarter from the same period a year ago. Marsh reported that 95% of its clients experienced an increase.

  • “The last few weeks have been bad,” said one member, adding that in some cases insurers themselves “have just walked away.” Another member was quoted an increase in the 30% range and considered himself lucky. “If someone gives you something good, take it.”
  • This advice was too late for one member. “We were told of a 30-35% [increase] in February, but now we’re told between 50%-70%,” she said.
  • At the NeuGroup for treasurers of retailers, one member’s D&O renewal experience involved “premium pressure on the lead portion, but more on the excess layers, where the premium pressure was outrageous.”

Reckoning and retention. After a “historic underpricing” of D&O premiums in London, the market is now witnessing a serious course correction, according to an account executive from Aon Risk Solutions who spoke at the life sciences meeting.

  • This reckoning, along with the pandemic, means the London market is not offering capacity and premiums are surging, he said.
  • Another takeaway from that meeting: higher retentions by corporates are not leading to significant premium relief.
  • Some members of the life sciences group reported having difficulty getting competing quotes for D&O coverage.

Litigation nation. At the LSTPG meeting, one insurance expert presenting noted that he was starting to see an increase in “litigation over the pandemic,” including lawsuits in the tourism sector. No one is immune,” he said, and treasurers should “anticipate seeing more and more [litigation].”

  • With this in mind, some treasures noted that underwriters were adding a pandemic or virus exclusion to policies going forward; current policies either don’t have the exclusion or are vague. 

Better beyond D&O. The good news, according to Tech20 members, is that outside of some coverage areas like D&O and property, there haven’t been huge increases. “Coverage has remained stable,” said one Tech20 member, who added that there was “no constriction in terms and conditions.”

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A Green Light for Tax Equity Investments in Renewable Energy

There’s still time for corporates to benefit from federal tax credits and reap attractive returns.

The final session of NeuGroup’s final H1 meeting featured a presentation on green and sustainability-linked finance by U.S. Bank, sponsor of the NeuGroup for Retail Treasury. Below are some key takeaways from the session as distilled by Joseph Neu, founder of NeuGroup and leader of the retail group.

  • Update your view on the ROI of tax equity structures. Commenting on the cash flows from a transaction presented by U.S. Bank, one member noted that they looked more sizable than he remembered when looking into tax equity structures several years ago. This shows how the economics have improved significantly with the greater investment tax credit available, so it pays to do the math again if you have not looked at these in a while. Members confirmed that the immediate (end of year one) tax credit payback and subsequent operational cash flows make it relatively easy to meet your hurdle and do something good with renewable energy (mainly solar) tax equity investments.

There’s still time for corporates to benefit from federal tax credits and reap attractive returns.

The final session of NeuGroup’s final H1 meeting featured a presentation on green and sustainability-linked finance by U.S. Bank, sponsor of the NeuGroup for Retail Treasury. Below are some key takeaways from the session as distilled by Joseph Neu, founder of NeuGroup and leader of the retail group.

  • Update your view on the ROI of tax equity structures. Commenting on the cash flows from a transaction presented by U.S. Bank, one member noted that they looked more sizable than he remembered when looking into tax equity structures several years ago. This shows how the economics have improved significantly with the greater investment tax credit available, so it pays to do the math again if you have not looked at these in a while. Members confirmed that the immediate (end of year one) tax credit payback and subsequent operational cash flows make it relatively easy to meet your hurdle and do something good with renewable energy (mainly solar) tax equity investments.
  • It helps to work with a bank/broker with balance sheet. If you have your own source of funding it is easier to control the transaction while lining up investors and keeping the contractor and project moving. One member noted having a transaction fail with a broker that did not have its own funding and lost control of the project.
  • Investors needed. U.S. Bank says that there are multiples more projects needing financing than current investors in tax equity structures, so it’s a bit of an investor’s market. Also, even if the tax credits on offer though 2023 are not renewed, there is still ample time to get on board—and there is good likelihood that they will be.
Source: U.S. Bank
  • PPAs and VPPAs. Power purchase agreements (PPAs) and virtual PPAs are also a way to support renewable energy, but come with a bit more risk due to potential price fluctuations and the need to actually use the energy procured or the counterparty risk with the VPPA.  Tax equity structures tend to have a first loss guarantee by the bank to cushion performance risk.  
  • Do you have enough use of proceeds to issue in benchmark size?  When the discussion turned to green bonds, the first question was to look at your use of proceeds, including with three or more-year look backs, to see if you can justify a benchmark size issuance of $500 million or more.
  • If yes, then consider the fees/real asset economics. The second question asked was to what extent a green issuance can be justified based on the cost of issuance and pricing. All things point to the answer being yes— you can see a three to four basis point advantage to green bonds, as appetite by ESG investors and normal fixed income investors for ESG-friendly bonds is strong and growing stronger.
    • The only way to prove it without extrapolation of different tranches (green and non-green) issued at once by an issuer or by backing out the new issue premium differential from how green bonds trade in the secondary markets is for someone to issue a 10-year green bond and 10-year non-green bond of the same amount simultaneously.
    • One member said he would do that if bank underwriting fees were discounted to help him do it. These fees can be a bit higher because there is a bit more work on the part of the bank underwriter. There are also specialty accounting/audit fees to consider and those of a specialty ESG rater.
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Keeping That Resilient Posture Post-Pandemic

Having the resilience to survive the pandemic needs to extend into staying that way it as the pandemic abates (whenever that is).

One imperative that has informed the operations of most corporates during the pandemic is business resiliency. Through the stress of potential liquidity crunches, supply-chain disruptions and work from home pressures, companies have bobbed and weaved their way with great resiliency. But what about once the pandemic is over? What will BAU, “business as usual,” be like after the COVID-19 pandemic loosens its grip?

At NeuGroup’s recent European Treasury Peer Group (EuroTPG) virtual meeting, sponsor HSBC noted that in the early stages, COVID-19 was a supply crisis, hitting the large production city Wuhan, prompting a manufacturing shift to other Asian countries; it was only later that it became a demand crisis when countries mandated that wide swaths of their populations stay home.

Having the resilience to survive the pandemic needs to extend into staying that way as the pandemic abates (whenever that is).

One imperative that has informed the operations of most corporates during the pandemic is business resiliency. Through the stress of potential liquidity crunches, supply-chain disruptions and work from home pressures, companies have bobbed and weaved their way with great resiliency. But what about once the pandemic is over? What will BAU, “business as usual,” be like after the COVID-19 pandemic loosens its grip?

At NeuGroup’s recent European Treasury Peer Group (EuroTPG) virtual meeting, sponsor HSBC noted that in the early stages, COVID-19 was a supply crisis, hitting the large production city Wuhan, prompting a manufacturing shift to other Asian countries; it was only later that it became a demand crisis when countries mandated that wide swaths of their populations stay home. 

  • Treasurers can learn valuable operations, risk and treasury-structure lessons for the post-COVID world from how the crisis developed and how it affected their businesses. 
  • A risk scorecard to evaluate the exposure to risk factors like 2020 revenue impact, operational inelasticity, reliance on key suppliers, input prices, cash and available credit, impacts on costs and debt metrics, and of course time to return to BAU, can be particularly illustrative. 

Build a robust, centralized treasury with strong regional execution abilities. Large, global MNCs that have navigated the crisis well have shown the importance of having the right treasury structure, which emphasizes control and flexibility; the ideal set-up enables: 

  • Systems to deliver real-time, global exposure information.
  • A centralized liquidity and risk management framework.
  • Centralized policies and control structure and regional/local execution, where needed, via treasury hubs.   

Go for operational flexibility and endurance to stay the course. With a widespread and long-lasting crisis, what is the company’s ability to: 

  • Access sufficient cash levels and credit lines, and ability to “flex” capital expenditures? 
  • Serve customers (and for customers to purchase goods and services) while the pandemic rages?
  • Change its sales model, potentially increasing e-commerce and direct sales? 
  • Substitute and localize parts of the supply chains in a swift manner?
  • Not rely unduly on offshore sources of materials and components?
  • Recover lost revenues when the outbreak ebbs?

Supply chain finance was the original risk mitigation. Trade finance was “born as a risk management solution,” said HSBC in its session, and COVID-19 has put the spotlight on the importance of getting the supply chain in top form to withstand potential border closings and financing droughts. 

  • This has been borne out in reports from across the NeuGroup universe. Some members have had supply chain finance (SCF) vendors tell them that banks temporarily asked for wider spreads to compensate for their own higher funding costs. 
  • Other members worry more about how one unavailable link or part in the supply chain could metastasize into a larger material or component unavailability, thereby threatening a key product line.

Make someone happy. For its part, HSBC said it was also focusing on supporting the corporate supply chains of its current clientele while also extending its services to new customers. A presenter said the bank wants to support suppliers to avoid shortages by offering HSBC’s balance sheet for: 

  • Classical trade instruments to match liquidity generation and supplier risk mitigation: Here, supply chain programs should consider documentary payment terms to mitigate long receivables risk and enable financing; documentary payment terms are also cheaper than letters of credit.
  • SCF to support suppliers’ liquidity position and mitigate concentration risk via receivables finance and forfaiting.

Open-account financing to established, single-flow key suppliers. 

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Managing Bank Balance Sheets in a Low Yield Environment

NeuGroup BankTPG members hear ways to manage their balance sheets amid low interest rates (that may remain low a long time).

The Federal Reserve announced in early June that it would keep its benchmark interest rate near zero through 2022. While this might be good for borrowers, what does it mean for lenders? And are negative rates possible?

The first question has many answers, as members of NeuGroup’s Bank Treasurers’ Peer Group (BankTPG) heard at the 16th annual meeting. There were several strategies suggested by the meeting sponsor on what bank treasurers can do to manage the balance sheet amid this uncertainty. The answer to whether rates go negative: it is unlikely

NeuGroup BankTPG members hear ways to manage their balance sheets amid low interest rates (that may remain low a long time).

The Federal Reserve announced in early June that it would keep its benchmark interest rate near zero through 2022. While this might be good for borrowers, what does it mean for lenders? And are negative rates possible?

The first question has many answers, as members of NeuGroup’s Bank Treasurers’ Peer Group (BankTPG) heard at the 16th annual meeting. There were several strategies suggested by the meeting sponsor on what bank treasurers can do to manage the balance sheet amid this uncertainty. The answer to whether rates go negative: it is unlikely (see below). 

Like the Gershwin tune. “Low rates are here to stay,” one member of the BankTPG meeting sponsor team said, and thus would remain a challenge for banks. “Not a lot of yield to be had here,” he added. The bankers suggested that as with their own balance sheet, members should think about pass-throughs. 

  • “Given current mortgage rates, prepayments may increase and remain elevated, suggesting that bank portfolios should purchase lower dollar price assets in pass-throughs,” the sponsor said in a presentation.

Real estate could help. BankTPG members were told that GSEs Fannie Mae and Freddie Mac could be facing reform soon, although COVID-19 may delay things. Despite this, the housing market should stay strong, according to the meeting sponsors. Commercial real estate could be problematic but low rates could mitigate the impact. 

  • “There could be some challenges to commercial, but looking at it overall, it’s not bad because of low rates,” said one member of the sponsor team. “There are plenty of people with dry powder to buy in distress and otherwise.” 

Protect against volatility. Another strategy for the remainder of 2020 suggested by sponsors was to protect downside risk with hedges. “Shifting from linear derivatives into hedges with positive convexity like interest rate swaps may be risk accretive at current rate levels. Also, “as implied volatility hits multi-year lows, 0% strike interest rate floors and interest rate collars have become powerful hedging tools.” 

Certificates of deposit. The sponsor said some of its clients are investing in bank CDs with customized coupons. “There’s some risk there so don’t do in large size,” the sponsor suggested. 

Floating-rate SOFR. With the Fed’s Secured Overnight Financing Rate (SOFR) gaining traction, there have been many entities, including GSEs Fannie and Freddie, banks like Goldman Sachs, Credit Suisse and Bank of America issuing SOFR-referenced floating rate notes. The BankTPG sponsor said that despite this, SOFR FRNs are not that popular. 

  • On the other hand, the bank is “supportive of the move to SOFR; the transmission mechanism is good,” the sponsor said. Nonetheless, “it raises a lot of questions on how you want to be positioned right now.” And in terms of FRNs, “anything out there that is a lottery ticket if rates go negative.” 

Negative rates? The sponsor said negative rates in the US are unlikely, and members agreed. Across the NeuGroup network, the consensus is that US rates, while remaining near zero, will not go negative. 

  • “Our bank is trying to be disciplined and mechanical,” said one member who was reviewing whether to “unwind and reposition things” in case rates go below zero. The sponsors added that their bank was “trying to be disciplined and mechanical” about the market.” 
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NeuGroup for Retail Treasury Pilot Series Wrap-Up

Customer paying using mobile phone

In a series of Zoom sessions, the NeuGroup for Retail Treasury was launched in partnership with Starbucks treasury and sponsored by U.S. Bank. NeuGroup Founder and CEO Joseph Neu shares his key takeaways from the sessions as follows:

  1. Retail is a sector of haves and have-nots based on being deemed an essential business, the ability to offer and scale on-line offerings and/or deliver out-of-store, including via curbside pickup or drive through.
  2. Business norms are changing fast. In June, the focus for retailers shifted from Covid-19 to racial injustice and equity in a matter of two weeks.
  3. Point-of-sale payments are problematic. In the US, in particular, payment systems serving the point of sale have not kept up with digital payments, creating substantial problems for retailers, and Covid-19 has laid that bare.

By Joseph Neu

As part of our ongoing experimentation with new virtual formats, the NeuGroup for Retail Treasury pilot “meeting” was made into a series of Zoom sessions over the course of about six weeks, concluding this week. This group was launched in partnership with Starbucks Treasury on the member side and sponsored by U.S. Bank.

Here are my key takeaways as a wrap up to the series:

Covid-19 divides into haves and have-nots. Retail and other consumer-facing businesses, such as quick-serve restaurants, represent a sector of haves and have nots.

The haves:

  • Those deemed essential businesses that could remain open during the Covid-19 lockdown
  • Those that were prepared to offer/ramp online offerings as well as
  • Those that provided out-of-store delivery, including curbside pick-up or drive through are the more likely haves in this sector.

The have-nots:

  • Pretty much everyone else.

Protests prompt fast-changing norms.  In a session that happened to fall on Juneteenth, weeks after a session where a member in the Twin Cities shared his perspectives on the situation there, we took a good portion of our exchange on regulation and business norms to discuss an entirely unexpected crisis. We discussed how the retail sector, being consumer-facing and with storefronts made part of the protests, was confronting a crisis brought about by racial trauma and a lack of respect being shown for Black lives.

  • Underscoring the pace of change in business norms, the focus shifted from Covid-19 to racial justice and equity in a period of two weeks.

It was a fitting way to celebrate Juneteenth, however.

  • Several members attending also joined on what was a company holiday for them (a new holiday can be decided upon in days).
  • All spoke to what their companies have and will continue to do to show their commitment to, as one company noted: “to standing with Black families, communities and team members and creating lasting change around racial justice and equity.”
  • All also will be building on their foundations of diversity and inclusion to make what one member of color noted she hopes will be sincere actions to create lasting change.

Payments at the point of sale are problematic.  In the US, in particular, the payment situation at the point of sale is a huge problem and Covid-19 has laid that bare.

  • The problems start with interchange fees in this country that have not kept pace with digital forms of payment
  • They actually dissuade merchants from accepting contactless forms of payment, including the safest form using smartphones with biometric identify verification.

As a result, the US has seen growth in contactless forms of payment rise to 4%, from 0.4% in the last 18 months, while the rest of the developed world is growing it to over 50% of face-to-face transactions.

  • While members report that electronic payments are growing, including contactless, as a result of Covid-19, the cost involved in processing such payments is also a growing concern.

Cash transactions, meanwhile, have been hampered, at a time when customers are returning to in-store purchases, by the disruptions of coins in circulation. This is due to so many stores being closed in lockdown, coin recycling machines being turned off, and consumer reluctance to return to stores and use unhygenic cash and coin as payment. 

  • Without the ability to make change–given the cost of electronic payments on small-ticket sales and the number of customers who prefer or can only pay in cash– stores processing face-to-face payment at the point of the sale have had to scramble to cope with yet another issue detrimental to their business.
  • The state of play in the US with point-of-sale payments is an embarrassment and we should all do more to ensure that we don’t let it stand as it does.
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COVID Boosts Contactless Payments, Revealing Retailer Frustrations

Low adoption rates in the US and issues such as routing rights and interchange fees may present challenges for some retailers as contactless payment grows.

It’s no big surprise that the pandemic has pushed more US shoppers to use contactless credit and debit cards as well as mobile wallets. Tapping or waving a card or phone is a cleaner, safer way to pay than swiping or inserting a card.

  • But what stood out at a recent NeuGroup for Retail Treasury meeting was the frustration voiced by members about aspects of the shift to contactless payments—each aspect related in some way to costs.

Low adoption rates in the US and issues such as routing rights and interchange fees may present challenges for some retailers as contactless payment grows.

It’s no big surprise that the pandemic has pushed more US shoppers to use contactless credit and debit cards as well as mobile wallets. Tapping or waving a card or phone is a cleaner, safer way to pay than swiping or inserting a card.

  • But what stood out at a recent NeuGroup for Retail Treasury meeting was the frustration voiced by members about aspects of the shift to contactless payments—each aspect related in some way to costs.

One-sided investment? “This frustrates me,” said one member, adding that companies like hers were “forced to step up and invest” in technology enabling chips and contactless payments or risk being liable for fraudulent charges. The problem? Card issuers, she said, did not include contactless technology when they introduced chip cards—meaning retailers had to make “a one-sided investment” with respect to contactless payments.

The US as laggard. One reason that investment hasn’t paid off for many retailers is that very few US consumers are making contactless payments, even though about 75% of merchant locations can accept them and card issuers are now providing them. As the chart shows, only 4% of face-to-face transactions in the US are contactless, far below the global average of 50%.  

  • This discrepancy meant merchants have not benefitted significantly from faster transaction processing times or throughputs available with contactless payments, the member said. And employees of quick service restaurants with drive-through service had to keep passing cards back and forth with customers.
  • But the times are changing fast: More than half (51%) of Americans are now using some form of contactless payment, which includes tap-to-go credit cards and mobile wallets like Apple Pay, according to Mastercard. 

Pinless debit in peril? Another member pointed out that companies like his that process pinless debit transactions—which by law allow merchants to route transactions away from the big global card networks and pay lower interchange fees—may lose that ability if they opt for contactless payments.

  • “This is the networks’ way of eliminating pinless debit because of lost revenue,” he said.

Upside down. The last area of frustration discussed concerns the interchange fees merchants pay for contactless transactions over the internet using biometric technology in digital wallets, making them among the most secure transactions, one treasuer said.

  • He argued that this superior level of security should mean interchange fees for mobile transactions online are the lowest paid by retailers. They’re not.
  • They’re among the highest, he said, because they are treated in most cases as any internet transaction, which is less secure than when a customer is presenting a card in a physical store or restaurant.
  • That there is no correlation between the fees charged and the relative level of security doesn’t make sense to this treasurer.
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Pandemic Pushes Companies to Digitize Processes, Prioritize People

Treasurers at tech firms push to abandon legacy processes while focusing on keeping teams connected.
 
Many tech companies during the pandemic have been able to announce that they will not lay anyone off during the crisis—and have been able to keep their promise.
 
Unfortunately, that’s not universally true—some businesses have been particularly hard hit and have had to furlough or cut staff, and consequently do more with less. This prompted a hard look at projects and their prioritization for many members of NeuGroup’s Tech20 Treasurers’ Peer Group, who met virtually in May.

Treasurers at tech firms push to abandon legacy processes while focusing on keeping teams connected.
 
Many tech companies during the pandemic have been able to announce that they will not lay anyone off during the crisis—and have been able to keep their promise.
 
Unfortunately, that’s not universally true—some businesses have been particularly hard hit and have had to furlough or cut staff, and consequently do more with less. This prompted a hard look at projects and their prioritization for many members of NeuGroup’s Tech20 Treasurers’ Peer Group, who met virtually in May.
 
Mixed emphasis. Even for those members who didn’t have to downsize their teams, there was an effort to deprioritize certain projects to avoid the fatigue that creeps into teams as the work from home (WFH) regime drags on. But there may also be projects that should be accelerated.

  • A lack of automation and digitalization manifests itself sharply in uncertain times and calls for a mindset of taking advantage of the crisis to boost these efforts.
  • One simple example is the push for wider bank and regulatory acceptance of digital signatures (Adobe Sign, DocuSign) instead of the standard “wet” signature, not just on a temporary basis but permanently and globally.
  • And if you haven’t automated enough of your cash positioning, for instance, now is the time to do so to free up time for critical forecasting and analysis. 

Back in the office, or not so much? What will the future workplace look like, even if you have an office to go to? Even with smaller meeting sizes, half team in, half team out, masks on and temps checked—all of which will put a damper on the office enthusiasm—some employees might not have an office. One treasurer’s company had announced in May that it would reduce its real estate footprint by 50%; this has been something heard across NeuGroups.

  • “Hoteling,” with coworking and shared work spaces, is back again. Will this lead to a reversal of the California exodus trend, i.e., going to lower-cost states? If one of the key reasons for distributing teams out of the state is the cost of Bay Area real estate, will that go on to the same degree if the team can just work from home instead, saving cost on office space? At the very least, the calculus will look a bit different going forward. 

But really, what’s next? As one member noted, the new WFH paradigm is not likely to change any time soon and may become a permanent arrangement for some, or at least some of the time. What will that mean for recruitment processes, performance reviews, retention, team alignment and getting everyone to row in the same direction?

  • Focus on the folks. A member noted the emphasis on empathy and keeping the team feeling connected: “At other meetings, we used to talk to about systems, systems, systems, and now it’s people, people, people. And I can’t imagine losing any of my people now.”
  • When everyone’s remote, “it’s hard to recreate the ordinary dialogue you have” noted one of the RBC Capital Markets sponsors, referring to summer interns and new hires. That said, it seems that younger employees are thriving in the WFH environment and have grown more assertive; they were quieter in the office. As one member said, “On Zoom, everyone’s square is the same size.”
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Under the Hood of the Global Payments System: Complexity

How TIS helped The Adecco Group harmonize payment, reporting and bank account management processes.

So, you need to make payments? Sounds simple, but once you look under the hood of the global payments apparatus—which has developed differently in different places for different currencies—you will discover separate layers of complexity. That’s according to Joerg Wiemer, co-founder and CEO of Treasury Intelligence Solutions, or TIS.Put simply, there are three different sources of complexity.

  1. The connection and integration of the ERP and the bank system is incomplete, resulting in the use of multiple e-banking tools and a cumbersome cash visibility process.
  2. Payment formats, despite efforts to harmonize them, are not fully standardized, resulting in more time-consuming setup processes and/or costly payment fixes.
  3. Communication options like APIs are more like green bananas than the ripe fruit they are currently made out to be. Add to these the increased frequency of fraud attempts targeting the payments function.

How TIS helped The Adecco Group harmonize payment, reporting and bank account management processes.

So, you need to make payments? Sounds simple, but once you look under the hood of the global payments apparatus—which has developed differently in different places for different currencies—you will discover separate layers of complexity. That’s according to Joerg Wiemer, co-founder and CEO of Treasury Intelligence Solutions, or TIS.

Put simply, there are three different sources of complexity.

  1. The connection and integration of the ERP and the bank system is incomplete, resulting in the use of multiple e-banking tools and a cumbersome cash visibility process.
  2. Payment formats, despite efforts to harmonize them, are not fully standardized, resulting in more time-consuming setup processes and/or costly payment fixes.
  3. Communication options like APIs are more like green bananas than the ripe fruit they are currently made out to be. Add to these the increased frequency of fraud attempts targeting the payments function. 

High jump. The combination of these factors makes it hard for a treasury management system (TMS) to truly meet payment needs. And that’s before you consider that you will always need to make payments. A TMS, TIS suggests, can be a great “all-arounder” but is still like an Olympic decathlete in terms of required functionalities compared to the superior, focused expertise of a sprinter, long-distance runner, high jumper or javelin thrower.

A simplification case. At a recent meeting of the Tech20 High Growth Edition, NeuGroup for treasurers of high-growth tech companies, TIS co-presented a payments simplification case with a client, The Adecco Group. 

  • Adecco is a Fortune Global 500 recruitment and staffing agency based in Zurich, Switzerland, which operates 5,100 branches in eight regions and 60 countries. Over 60% of its EUR 23.4 billion FY2019 revenues came from Western Europe, and 19% from North America.
  • While the business is relatively stable and has some offsetting/countercyclical elements, 75% of revenues come from temporary staffing solutions with “retail-like” margins, i.e., not that generous. With processes involving up to 700,000 individuals at any given time, the emphasis is naturally on operating efficiency.
  • This entails digitization and automation in timesheets, recruitment (e.g., candidate portals), documentation, administration and, of course, payments. 

The handover. The payments function, often managed by treasury, is a handover point from many stakeholders, including treasury itself, accounting, shared services, IT or value-added process owners, and a variety of legal entities. It is similar at Adecco. The objectives of Adecco’s transformation journey are focused on:

  • Global cash visibility in the TMS, Kyriba.
  • Connection to all banks globally using TIS as the service bureau, ensuring communication efficiency (SWIFT, host-to-host, EBICS, BACS) depending on volume and complexity of local business needs.
  • Improved and harmonized payment, reporting and bank account management processes via a single, bank-independent e-banking system, provided by TIS (over 10,000 banks are connected via TIS’s cloud platform)—while also achieving compliance, bank-signature governance, risk reduction and cash centralization via pooling arrangements.  

A complicating factor is payroll payments: Salary and wage payments come from human resource systems where local rules and regulations for employee protections and taxes drive local differences, making this type of payment hard to harmonize.

The business case? Depending on your starting point, a “very high” ROI can be achieved primarily by:

  • Building in the ability to choose the most efficient communication option (bullet 2 above) for each payment. Over 90% of the traffic can go directly via non-SWIFT channels, meaning it’s cheaper: SWIFT has transaction-based pricing and TIS has “value-based” pricing where higher complexity means higher pricing (the number of bank accounts or ERPs is a proxy for complexity). But part of the TIS value proposition is reducing complexity with their project implementation.
  • Overcoming format-error driven payment delays (and costly fixes) with the use of TIS’s continuously updated and maintained payments “format library.” 

Success factors. Like many project stories, success lies in the effective coordination and collaboration of people.

  • Senior management sets the tone by driving change and expectations; also required is committed involvement from internal controls, compliance and IT/security, and strong governance from business, finance and treasury leadership.  

Test, test and test some more. For an end-to-end (E2E) process approach to be successful, test, test and retest all the formats and pathways thoroughly. And include deliberate errors to make testing as robust as possible.

Next up: From batch to instant payments. TIS does not consider APIs quite ready for prime time yet, and cites country-by-country differences (apps, clearing systems, amount thresholds and the varying API libraries banks have) as the primary reasons. They are nevertheless a big development and will bring many benefits in time.

  • People use Adecco’s app to find jobs; when their work is done and approved, nothing really stands in the way of settling the payment for that work.
  • “So we envision moving from batch to instant payments,” André van der Toorn, senior vp of treasury at the Adecco Group, said. Adecco’s associates (employees for whom Adecco is the employer of record) may be keen to accept that, even if it means they will get paid slightly less. Instant payments may come very soon, based on the success of a live test with a digital client in a remote part of the world.

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Obstacle Course: Cash Forecasting Challenges in Latin America 

Treasurers in Latin America are coping with the pandemic, M&A activity and working capital needs.
 
Many of the cash management challenges currently facing treasurers in Latin America are being complicated by a variety of factors, including the omnipresent COVID-19 crisis. But also in the mix is recent M&A activity in the region (think integration and its opposite, divestiture), along with difficult financing conditions affecting working capital management.
 
COVID chaos. Latin America is no exception in regions contending with the difficulties brought on by the pandemic. As in other parts of the world, work from home (WFH) processes have had to be invented on the fly and then executed.

Treasurers in Latin America are coping with the pandemic, M&A activity and working capital needs.
 
Many of the cash management challenges currently facing treasurers in Latin America are being complicated by a variety of factors, including the omnipresent COVID-19 crisis. But also in the mix is recent M&A activity in the region (think integration and its opposite, divestiture), along with difficult financing conditions affecting working capital management.
 
COVID chaos. Latin America is no exception in regions contending with the difficulties brought on by the pandemic. As in other parts of the world, work from home (WFH) processes have had to be invented on the fly and then executed.

  • This has led to some turnover, part of which stems from the paradoxical situation where WFH often means more work and burnout; this then leads to companies onboarding new people either virtually or in person while maintaining social distancing protocols.
  • Members pointed out that this highlighted the importance of written, up-to-date policies and procedures. 

M&A chaos. Acquisitions, and in one case a divestiture, bring their own challenges to accurate cash forecasting. Integration of the entities involved must take place country by country. The message here is that there is a lot to do, in multiple tax and regulatory environments that generally do not allow cross-border solutions. Of course, the whole forecast philosophy can vary—forecast as needed vs. regular forecasts. Also, the need to repatriate regularly or leave the cash where it is requires major adjustment and training.

  • Where treasury management systems are involved (and the accounting systems that feed them), there is the need to reconcile different approaches to the requirements of the new combined (or separated) entity. 

Working cap scrutiny. Communicating the expected cash needs of the new company is an important issue to management ahead of earnings calls. Going along with this is the focus on working capital, and in particular short-term assets like accounts receivable (DSO’s) and inventory (months of sales).

  • Often overlooked is the opportunity presented on the liability side. Companies with historically strong cash flow may have slipped into a practice of just paying the bills as presented.
  • By paying according to terms, or negotiating payment terms to industry benchmarks, companies can add to cash on hand the same way collecting sales faster adds to cash. 

Cash rules. Treasury needs to work closely with in-country managers to identify where there are opportunities to increase cash on hand and then determine how to get that cash to where it is needed, whether to pay down debt or pay equity investors.

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Why Swapping Fixed-Rate Debt to Floating Is Still Worth Considering

Wells Fargo shared insights on liability management at the pilot meeting of NeuGroup for Capital Markets.

At a spring meeting of NeuGroup for Capital Markets, sponsored by Wells Fargo, several members said they had used interest-rate swaps to shift more of their debt to floating rates, a move that paid off as rates fell in the second quarter amid the pandemic.

  • A few participants had regrets about having swapped from floating to fixed rates.
  • One member said his team is “spending a lot of time trying to get the right mix” of fixed and floating rates as it asks if “it makes sense to do swaps.”

Wells Fargo shared insights on liability management at the pilot meeting of NeuGroup for Capital Markets.

At a spring meeting of NeuGroup for Capital Markets, sponsored by Wells Fargo, several members said they had used interest-rate swaps to shift more of their debt to floating rates, a move that paid off as rates fell in the second quarter amid the pandemic.

  • A few participants had regrets about having swapped from floating to fixed rates.
  • One member said his team is “spending a lot of time trying to get the right mix” of fixed and floating rates as it asks if “it makes sense to do swaps.”

Conversations and convincing. One of the members who swapped from fixed to floating said it had required “convincing management this was right” from an asset liability management (ALM) perspective, adding that treasury had lots of conversations with the CFO “to make him comfortable.” She said much of the focus was on timing which, fortunately, “worked out.”

  • As a result, some of this company’s hedges are in the money, raising the question of whether it makes sense to unwind or enter into offsetting swaps to monetize the hedge gains. The member asked for input on accounting and other considerations.
  • This company had also done some pre-issuance hedging and was doing more of it at the time of the meeting.

Magic formula? One of the presenters from Wells Fargo asked, rhetorically, how many people at the meeting had been told there is a “magic formula” for the ideal debt mix, such as 75% fixed to 25% floating.

  • Formulas aside, the key question investment-grade (IG) companies must answer before using interest-rate swaps, he said, is how much volatility in corporate earnings (before interest and taxes) will result from changes in rates. The answer, he suggested, depends on the cyclicality of the business and its “absorption capacity.”
  • It’s important to ask why you put on the swap, especially in this environment when fixed to floating-rate swaps went into the money, the Wells Fargo presenter said. What’s important is determining how much potential eps volatility it creates and whether “you can add it and not create heartburn,” he said.

What now? Another presenter from Wells Fargo said that, as a result of lower savings now available from swapping fixed to floating rates, “I think people have written off swaps to floating.” But he said the savings are still decent, meaning it makes sense to keep swaps on the radar screen and that corporates should “keep thinking” about them.

  • In a follow-up call in early July, he said his views still hold in the current market and pointed to data Wells Fargo presented during the meeting to illustrate that swaps to floating make sense even when rates are flat.
  • It shows that over the last 23 years, the savings on a 5-year swap, even in an adjusted market environment where interest rates remain flat and trendless, still amount to nearly 100 basis points.
  • This may be especially relevant today given that so many companies boosted liquidity as the pandemic shut down the economy by issuing fixed-rate debt.
  • As a result, Wells Fargo’s presentation says, the liability portfolios of many IG issuers are overweight fixed-rate debt.
  • The bank also noted an “asset liability mismatch (debt versus cash/short-term investments) creating ‘negative carry drag’.”
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Brain Game: Using Artificial Intelligence to Improve Cash Forecasting

ION’s plans to tap machine learning, deep learning and neural networks to help treasurers.  
 
Making better use of technology to improve cash flow forecasting (and cash visibility) has taken on greater importance during the pandemic for many companies where it was already a high priority. That was among the key takeaways at the spring virtual meeting of the Global Cash and Banking Group, sponsored by ION Treasury.

  • ION sells seven different treasury management systems (TMSs), including Reval and Wallstreet Suite.
  • Among the cross-product solutions ION is focused on is a cash forecasting tool leveraging artificial intelligence (AI), mostly in the form of machine learning (ML) and deep learning neural networks.
  • One of the ION presenters said advances in AI and ML have produced an “opportunity to reimagine how cash forecasting can be done,” noting something treasurers know too well—that no one yet has truly “solved in a great way” one of the top challenges facing finance teams.

ION’s plans to tap machine learning, deep learning and neural networks to help treasurers.  
 
Making better use of technology to improve cash flow forecasting (and cash visibility) has taken on greater importance during the pandemic for many companies where it was already a high priority. That was among the key takeaways at the spring virtual meeting of the Global Cash and Banking Group, sponsored by ION Treasury.

  • ION sells seven different treasury management systems (TMSs), including Reval and Wallstreet Suite.
  • Among the cross-product solutions ION is focused on is a cash forecasting tool leveraging artificial intelligence (AI), mostly in the form of machine learning (ML) and deep learning neural networks.
  • One of the ION presenters said advances in AI and ML have produced an “opportunity to reimagine how cash forecasting can be done,” noting something treasurers know too well—that no one yet has truly “solved in a great way” one of the top challenges facing finance teams.

Define your terms. Another ION presenter explained that AI is any intelligence demonstrated by a machine.

  • ML—a subset of AI—involves the ability to learn without being explicitly programmed.
  • Deep learning (DL) is a subset of ML and includes so-called neural networks inspired by the human brain. The algorithms powering neural networks need “training data” to learn, enabling them to recognize patterns.
    • The ION presenter gave the example of a neural network within a self-driving vehicle that processes images “seen” by the car. 

Building on data and business knowledge. For cash forecasting, the learning process starts with entering historical data into the model that is “cleaned” by tagging the inflows and outflows appropriately and removing outliers that would significantly skew trends. Models are trained via algorithms that apply rules and matching inputs with expected outputs.

Validation required. Like many learning curves, it takes time for the model to reach a high level of performance and requires treasury professionals to validate that the algo knows what it is doing by comparing the forecast to actual variances.

  • Similarly, people—not machines—will have insider knowledge of significant changes within the organization and must make tweaks to the model where appropriate. 

Measuring the models. Various statistical approaches feed neural networks’ underlying algorithms. When building their AI cash forecasting solution, ION tested everything from simple linear regression to multivariable linear regression to the Autoregressive Integrated Moving Average (ARIMA) model, which adds layers to the neural network and process non-linear activities.

  • ION’s research suggests that linear regression-based learning models perform well for businesses with stable, growing cash flows, but less well with cash flows subject to seasonal peaks.
    • ARIMA models perform better, but need extra modeling for seasonality while neural networks require careful attention to training data to learn from, as well as supplemental intervention when non-repeating events occur—such as global pandemics.
  • Still, you can get 90%-95% accuracy most of the time, in seconds vs a day or more using manual methods. ML for cash forecasting has the potential to be 3,000 times faster than common manual processes companies employ, according to ION.
    • Other benefits include improving accuracy, overcoming human biases, picking up anomalies that could mean fraudulent activity, and realizing monetary gains from more predictable cash positions.
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Managing the Team Through WFH Takes Effort

Powering an effective team through tough times – snacks and all.

For all the talk about how well NeuGroup peer group members and their teams have navigated the pandemic – quarter closes, bond issuances, insurance renewals, revolver negotiations, even hostile takeover attempts – there is a nagging feeling that “this can’t go on forever” without more problems manifesting themselves in some way. 

After almost four months of a near complete “work from home” or WFH regime, it will still be a while before the full strength of the treasury team is back together in the office. Some companies have announced recently phased-in returns as early as mid-June while others have been told to stay home through the end of the year. What can be learned from the experience so far as the situation stays fluid? Here are some thoughts from NeuGroup’s recent Tech20 Treasurers’ Peer Group meeting.

Powering an effective team through tough times – snacks and all.

For all the talk about how well NeuGroup peer group members and their teams have navigated the pandemic – quarter closes, bond issuances, insurance renewals, revolver negotiations, even hostile takeover attempts – there is a nagging feeling that “this can’t go on forever” without more problems manifesting themselves in some way. 

After almost four months of a near complete “work from home” or WFH regime, it will still be a while before the full strength of the treasury team is back together in the office. Some companies have announced recently phased-in returns as early as mid-June while others have been told to stay home through the end of the year. What can be learned from the experience so far as the situation stays fluid? Here are some thoughts from NeuGroup’s recent Tech20 Treasurers’ Peer Group meeting. 

First, all the BCP work pays off. Treasury’s essential focus of keeping the lights on no matter the catastrophe has long required detailed business continuity plans to ensure access to liquidity, collections capabilities and the ability to make payments away from a compromised office site. 

  • So, arguably, no team was better prepared than treasury going into the pandemic-driven mandate for staff to take up their posts at home. Some treasurers noted with relief that they had recently tested the BCP and that things had worked out as planned when the order came. 

Not much change for some. Global corporations of a certain size already have regional treasury centers in other places of the world, and – especially if based in the high-cost San Francisco Bay Area – varying levels of distributed teams in lower-cost regions of the US, e.g., Florida and Texas. The ability to lead those teams may have taken on a different nuance in the WFH environment, but managers were already used to leading remote team members. 

  • “We were already very remote so we had that down, and the [quarterly] close wasn’t a problem,” said a Tech20 member who leads both the treasury and tax teams. Nevertheless – and despite a significant redistribution of ergonomic chairs from offices to homes across the Bay Area – several companies gave a stipend of up to several hundred dollars to set up a home office. 

Reassure the team with leadership, transparency. With the airwaves filled with COVID-19 news and the increased focus on cash and forecasting facing a very uncertain future, it is natural that people start worrying about losing their jobs. Some companies, including one Tech20 member who shared her company’s approach to leading in times of COVID-19, announced that there would be no layoffs in 2020. 

  • This company also makes a lot of effort to show empathy with employees and demonstrates its own focus on well-being to reassure others that it is OK to nor just power on as usual. The cadence of communication is important.

Set boundaries, examples. Particularly in situations where the whole family is at home, it’s important to demarcate work time and home time. Our presenting member said her husband oversees schooling the kids and she does “after school” activities. This means she is not available for meetings for a set number of hours in the afternoon and encourages her staff to set similar limits. 

  • Another member, who also emphasized mental well-being after the intensity of weeks upon weeks of blurred work/home lines – especially for single parents with young kids, and since taking vacation seems pointless if you can’t go anywhere – said he would take a Friday off on a regular basis, signaling that similar actions by staff are acceptable. 

A lot of mileage out of small morale boosters. Coffee breaks and happy hours by Zoom, a dedicated Slack channel for office chitchat and family pictures, checking in on the singles on the team, and online trivia game time are examples of team building and maintaining a sense of team and inclusion. The tax and treasury chief from above organized a “remote offsite” meeting to connect with the team and from time to time sends much-welcomed healthy snack packages (from Oh My Green) to her staff. 

  • All this combined with the moratorium on layoffs have rewarded the presenting company’s management with their highest employee satisfaction numbers, despite the challenging period. 
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Do Pensions Need to Bolster Post-Retirement Resources?

Pension managers could be doing a better job of guiding retirees with their post-work pension planning.

For decades, defined contribution (DC) retirement plans have helped address the needs of individuals leading up to retirement. However, plan sponsors have made little progress in addressing individuals’ needs during retirement itself, according to Insight Investment, a sponsor of the NeuGroup for Pension and Benefits’ recent meeting. 

Retirement anxiety. There is a lot of unease for employees on the verge of retiring, as they worry about funding their non-working lives. It also remains a major concern among the population still working, given the disappearance of defined benefit pension plans, near-zero interest rates and highly volatile equity markets.

Pension managers could be doing a better job of guiding retirees with their post-work pension planning.

For decades, defined contribution (DC) retirement plans have helped address the needs of individuals leading up to retirement. However, plan sponsors have made little progress in addressing individuals’ needs during retirement itself, according to Insight Investment, a sponsor of the NeuGroup for Pension and Benefits’ recent meeting. 

Retirement anxiety. There is a lot of unease for employees on the verge of retiring, as they worry about funding their non-working lives. It also remains a major concern among the population still working, given the disappearance of defined benefit pension plans, near-zero interest rates and highly volatile equity markets.  

“Surveys are showing that this is a concern for individuals,” said Bruce Wolfe, head of individual retirement strategy at Insight Investment. “The first step is to understand how the decumulation phase differs from the accumulation phase and create a framework to deliver the steady, predictable lifetime income that retirees generally desire.” 

  • Mr. Wolfe believes many of the “hurdles for plan sponsors to do more are only a matter of perception.” This means steps do exist for those managing the plan to not only educate soon-to-be retirees but also offer solutions to help manage their assets at separation “giving them firmer footing for the next phase of their lives.”
  • Meeting attendees basically agreed that while it was generally good to offer their employees a range of investment products – including environmental, social and governance options – within their retirement plans, there was little interest in what exiting employees did with their savings after they leave the company. While companies may offer some simple retirement planning tools, they do not want to risk appearing to be fiduciaries. 

Decumulation in the spotlight. The lack of tools has put decumulation in the spotlight for many plan sponsors, a recognition that most retirees are lost when it comes to what is, in practical terms, fairly sophisticated financial analysis. For example, only 5.5% wait until age 70 to start taking social security benefits when most retirees should wait as long as possible given longevity protection and inflation hedge that social security uniquely provides. For 401(k) participants seeking help there are some positive developments including:

  • 41% of plans have at least some form of “retirement income” solutions available, although plan sponsors acknowledge more innovation is needed.
  • The Setting Every Community Up for Retirement Enhancement (SECURE) Act cleared away some legal impediments to offering more retirement income products, particularly annuity-related ones.
  • QLAC products (Qualified Longevity Annuity Contracts) can be offered with limits within DC plans providing participants access to lifetime annuity contracts starting when individuals reach their 80s.   

This means plan sponsors need to “think harder about the escalating challenges they will face through the ‘decumulation’ phase of their investment lifecycle,” the Insight Investment team told meeting attendees. 

Unsteady footing. “Uncertainty is building as we find ourselves in an ‘interregnum’ between the post-war economic order and a brand-new economic era,” said Abdallah Nauphal, CEO at Insight Investment. “COVID-19 has provided an idea of how liquidity challenges, rebalancing and tail risk concerns can be elevated in stressed market conditions.” 

  • This means investors should prepare for future crises accordingly.
  • “Plans may need to consider adding additional tools to the toolkit, such as completion, overlay, asymmetric payoff and cost-effective downside equity risk management strategies to help ensure full funding and manage pension risks,” said Shivin Kwatra, Insight Investment’s head of LDI portfolio management in the US.
  • “We also believe investors need to focus on high quality investments to help ensure they meet their return and cash flow requirements with the highest level of certainty,” Mr. Kwatra said.
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Preparation Pays Off for Microsoft in Debt Exchange Offer

Liability management success: Microsoft received exchange interest of $12.5B, 56% of the targeted notional amount.
 
Treasury teams managing their debt portfolios have a menu of liability management transactions to choose from, including bond tenders, open-market repurchases, consent solicitations and debt exchanges. To use most of these tools, corporates need to offer investors a reasonable amount of time to decide, ranging from five to 20 business days.

  • So a successful liability transaction such as a debt exchange depends, in part, on a generally stable underlying market. COVID-19, of course, wreaked havoc on markets and sent volatility levels spiking. But monetary actions by the Fed and fiscal stimulus help calm markets, resulting in a sharp drop in volatility. And that opened the door for companies including Microsoft to take action.

Liability management success: Microsoft received exchange interest of $12.5B, 56% of the targeted notional amount.
 
Treasury teams managing their debt portfolios have a menu of liability management transactions to choose from, including bond tenders, open-market repurchases, consent solicitations and debt exchanges. To use most of these tools, corporates need to offer investors a reasonable amount of time to decide, ranging from five to 20 business days.

  • So a successful liability transaction such as a debt exchange depends, in part, on a generally stable underlying market. COVID-19, of course, wreaked havoc on markets and sent volatility levels spiking. But monetary actions by the Fed and fiscal stimulus help calm markets, resulting in a sharp drop in volatility. And that opened the door for companies including Microsoft to take action.

Laying the foundation. At a recent NeuGroup for Capital Markets office hours session, Microsoft’s treasury team discussed their recent debt exchange, announced on April 30, 2020 and settled on June 1, 2020.

  • Like any successful capital markets transaction, the preparation done in the months before by the treasury team laid the foundation for a debt exchange which accomplished the company’s financial and strategic objectives.
  • These objectives were driven by the primary principle to maximize economic value, including reducing the annual interest rate paid and being P&L accretive. 

Debt exchange details. On April 30, the company announced a registered waterfall exchange offer targeting 14 series of notes across two separate pools with maturities between 2035-2057, all with coupon rates above 3.75% (the existing notes) in exchange for cash into $6.25 billion of new notes due 2050 and $3 billion of new notes due 2060.

  • Microsoft set a waterfall prioritization based on economic value and registered the exchange via an S-4 filing requiring a 20-day offering period. It included an early exchange time on May 13, 2020 which offered investors better economics by exchanging their notes earlier than the official expiration date on May 28, 2020.
    • The strong interest by investors in the exchange allowed Microsoft to increase the amount of the new 2060 note to $3.75 billion. The final coupons on the new 2050 notes and the new 2060 notes were 2.525% and 2.675%, respectively. 

Banks with strong LM credentials. Working with joint dealer managers, Microsoft was able to tap into the knowledge and insights of two banks with strong credentials in liability management.

  • These banks were able to form a consensus on important details including what spreads over US Treasuries to use for both the existing notes and the new notes, modeling analysis, supporting logistics, the identification of holders of the existing notes and their likelihood of participating in the exchange, and potential ways to hedge interest rate movements.
  • At the end of the day, the transaction generated significant interest savings, and extended Microsoft’s debt maturity profile. The exchange also established new, liquid, par securities by allowing investors to move out of high dollar-priced bond issues.

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Cash and COVID-19: A Tale of Two Companies

One company asks, “Where is the cash?” while another reevaluates operational processes.
 
The economic upheaval unleashed by the pandemic divided the universe of companies at a recent virtual meeting of the Global Cash and Banking Group into two camps: Those with ample liquidity that were able to manage cash and conduct business as usual; and those forced to play defense and go “back to basics,” as one member in the latter camp put it.

  • Two member companies sharing very different perspectives on the pandemic’s impact on their businesses embodied this dichotomy: One, a tech giant, presented opportunities it found for process improvements; the other, a travel and leisure company, described an all-hands-on-deck liquidity crunch involving stress tests and turning over every stone for cash.

One company asks, “Where is the cash?” while another reevaluates operational processes.
 
The economic upheaval unleashed by the pandemic divided the universe of companies at a recent virtual meeting of the Global Cash and Banking Group into two camps: Those with ample liquidity that were able to manage cash and conduct business as usual; and those forced to play defense and go “back to basics,” as one member in the latter camp put it.

  • Two member companies sharing very different perspectives on the pandemic’s impact on their businesses embodied this dichotomy: One, a tech giant, presented opportunities it found for process improvements; the other, a travel and leisure company, described an all-hands-on-deck liquidity crunch involving stress tests and turning over every stone for cash. 

Tech tools. Liquidity was not an issue for the tech company and “we probably weathered the crisis better than other industries because of all the tech tools we have,” the member said, adding that the “crisis has raised opportunities” to improve processes.

  • The company was completely prepared to shift gears to work remotely so the challenge became how to overcome various geographical shutdowns and stay-at-home orders across the globe that affected access to stores, lockboxes and, in some cases, payroll.
  • Another technology company found opportunities on the check issuance side, saying that some vendors wanted to switch to ACH payments to improve their liquidity; but ACHs also made sense because it was pointless to send checks to locations (stores, lockboxes, etc.) that were closed. 

Tokens vs. mobile apps. During the pandemic, the first tech company lifted some restrictions on the use of mobile banking apps; when a token doesn’t work and treasury isn’t “in the building” the ease of a mobile app can save the day, especially since the company’s internal process requires three people to move money across the board.

  • However, future thought must be given to the continued use of mobile banking because in the case of termination or employee’s departure, it is easier to collect a token than disable a feature on their phone.

Are wet signatures a thing of the past? The pandemic also presented an opportunity to see how far banks would go in accepting DocuSign.

  • Members said the answer depends on the bank, with the member from the tech company saying, “We adjust to whatever the banks can support.” That said, many banks have made allowances that members hope will continue when things return to “normal.”

Where is the cash? On the flip side to these operational improvement opportunities, many treasury departments across industries scrambled to get a handle on all cash everywhere as the pandemic squeezed liquidity.

  • Hard hit. The travel and leisure industry in particular has been hard hit by mandated travel restrictions and months of consumer cancellations, resulting in a big blow to liquidity. For one member in that industry, prudent cash management and operations have been imperative to keeping the company’s balance sheet strong.
  • No treasury outside treasury. A centralized treasury department has helped with tackling the liquidity pinch for this member, allowing for global transparency and examination of onshore and offshore cash.
    • Because onshore does not equate to accessibility, her treasury department has re-bucketed cash by availability to determine true cash positions across horizons and established an internal task force with legal and accounting to establish minimum balances required for operations.
  • Scenario analyses and stress tests. Good cash forecasting has never been so important— treasury has been called to turn over models, run various scenario analyses and stress test base cases to safeguard the business. 
    • This treasury team tested base, prolonged recovery and severe impact analyses to consider various economic scenarios and protect minimum operating requirements.

Teamwork. The company formed a global finance task force to explore what more can be done to generate cost savings, defer tax and bolster receivables. The member said she was pleased to have employees volunteering from various departments and teams, coming together to help keep the company strong.

  • Similarly, with working capital management, different approaches are being taken with treasury in mind. Previously, departments would seek approval from the CFO based on anticipated ROI; now these teams are talking to treasury first to see if the use of cash makes sense before seeking sign-off. 

I will remember that. Members in similar boats agreed that some banks have gone out of their way to help them while others have been more strict, pushing back on requests and acting as though treasury was asking too much.

  • That prompted one member to say, “The banks who gave us the hard time—we won’t give them business.”
  • On the subject of accessing money invested in term deposits, she advised peers to always look at force majeure clauses in bank agreements to make sure they are not one-sided—allowing the bank to terminate but not allowing the investor to get money back early.
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US Coin Shortage: Retail Treasury Teams Call for Action, Urgency

Call it a disruption or call it a shortage—not enough coins means pain for retailers and banks.

Treasurers of major retailers and restaurant chains sounded loud notes of alarm at a NeuGroup virtual meeting Friday about what many observers are calling a coin shortage. U.S. Bank, the meeting sponsor, described it a “severe disruption” in the nation’s coin circulation sparked by COVID-19. (People have spent less cash during the pandemic and have exchanged far fewer coins for bills or credit at banks or grocery stores.)

Whatever you call this state of affairs, it’s a problem almost everyone said will turn painful this week and may last several months.

Call it a disruption or call it a shortage—not enough coins means pain for retailers and banks.

Treasurers of major retailers and restaurant chains sounded loud notes of alarm at a NeuGroup virtual meeting Friday about what many observers are calling a coin shortage. U.S. Bank, the meeting sponsor, described it as a “severe disruption” in the nation’s coin circulation sparked by COVID-19. (People have spent less cash during the pandemic and have exchanged far fewer coins for bills or credit at banks or grocery stores.)

Whatever you call this state of affairs, it’s a problem almost everyone said will turn painful this week and may last several months.

  • “What is the sense of urgency?” of addressing the problem, one assistant treasurer asked a U.S. Bank representative who serves on the Federal Reserve’s cash advisory council.
  • The U.S. Bank official said banks are keeping pressure on the US Mint, which ramped up production of all coins in mid-June, and are urging the Fed to make the public aware of the issue, including through social media.
  • While there is no easy, short-term solution, U.S. Bank is exhausting all channels to help clients, given the Fed’s decision to effectively ration the amount of coins banks can access to supply businesses.
  • The AT said his company’s coin orders are being filled at lower and lower percentages—as low as 20% or 0% in some areas. Roughly 20% of the company’s retail transactions are in cash.
A June 27 Twitter post by @Inevitable_ET says the photo is from a 7-Eleven.

Educating the public. “Why is the marketing campaign taking so long?” asked another member about expected efforts by the Fed to educate the public about the coin problem and encourage people to bring as many coins as possible back into the banking system.

  • “We as retailers are going to have to deal with consumers who don’t understand,” she said.
  • The treasurer of another retailer, where 40% of transactions are in cash, said there is some resistance from field teams to “having to explain the coin shortage in the country.”

Banks are showing a general lack of urgency/transparency. Members described their banks as providing varying degrees of help, from doing what they can, to “it’s not our problem” or “it’s not that bad of an issue.”

  • Comparing the issue to toilet paper hoarding earlier in the crisis, members noted that there is CEO-to-CEO engagement between retailers and suppliers. But that level of engagement is not happening between retailers and their banks, who are their suppliers of coin. 

Calls for more bank engagement. To address this, members suggested that banks come out with public letters from their CEOs calling attention to the coin shortage. This would help treasury get better traction and awareness in C-suites that this is a major issue that needs to be addressed.

Fixes are awkward, costly. Members noted that the fixes they are contemplating either are awkward or costly, and usually both.

  • On the awkward side is training associates to always ask for exact change, posting signs encouraging this and even saying that customers who do not have exact change (or an electronic form of payment) may not be able to check out or have their order filled.
  • On the cost side, moving low-dollar transactions to electronic payment has a significant economic cost (fees); rounding typically costs store as consumers don’t want to round up (and there are multi-jurisdiction tax issues to consider); and reprogramming point of sale systems can be expensive.
    •  Gift card issuance for change is also cumbersome. Some members are looking to donate change (or rounded-up amounts) to charity, usually the sponsored charity of the store.
    • Meanwhile, operators are being told to stop depositing coins, bringing in their own coins from home, ask local banks for supply and not to turn away coin orders that are “short.” 

Will coin disruption spread to notes? While banks have been assured by the Fed that the issue is not going to spread to notes, e.g., dollar bills or fives, retailers face an environment where the unexpected can happen, so members should extend their contingency plans to work out how to address disruption in smaller denomination notes as well.

Better/cheaper payment rails. Despite COVID-19 being a global issue, the coin disruption is principally a US problem, at least for the developed economies. Asked about the situation in the UK, for example, a member noted the country has an electronic payment system with much lower fees that allows for acceptance of electronic payment to become cost-effective at much lower ticket sizes. Multinational retailers are monitoring the situation in other cash-intensive markets closely, however.

Thus, the coin disruption provides yet another talking point alongside others with COVID-19, for those promoting an end to cash, a more inclusive electronic payment method, and digital currency. The Bank for International Settlements calls out the role of central banks with payments in this digital era, including establishing digital currencies in its recent economic annual report, for example.

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European Pensions Ride the ESG Bandwagon. Will US Plans Catch Up?

In Europe, ESG is gaining traction in pension funds while it still lags a bit in US; raters also need to standardize.
 
While many observers thought environmental, social and governance (ESG) issues would take a back seat amid the pandemic, the opposite has happened, with treasury practitioners—at least in NeuGroup’s universe— seeking more information.

  • Still, as members of the NeuGroup for Pensions and Benefits (NGPG) were told in a virtual meeting in May, it depends on where you are.

In Europe, ESG is gaining traction in pension funds while it still lags a bit in US; raters also need to standardize.
 
While many observers thought environmental, social and governance (ESG) issues would take a back seat amid the pandemic, the opposite has happened, with treasury practitioners—at least in NeuGroup’s universe— seeking more information.

  • Still, as members of the NeuGroup for Pensions and Benefits (NGPG) were told in a virtual meeting in May, it depends on where you are. 

How important? “ESG means different things to different people,” a sponsor presenter told members. “In Europe it’s the first thing pensions want to talk about, but not in the US.” The presenter added that this interest has been driven by both stakeholders and government. “So, depends on where plans are located.” 

  • One member said ESG is considered in managing the company’s pension but it is just one of several other considerations. ESG “is adopted as one of the factors in evaluating portfolio choice,” he said. “But it’s not a controlling factor.” The member added that he “thought it would have more of an impact but as of now we have had less interest.”
  • Since interest in Europe has been keener – particularly in Sweden, one member noted – multinationals were much more focused on ESG within their European funds. 

Held to a different standard. There is also a difference in standards, with one ESG rater often seeing things differently vs. another ESG rater. Essentially there are no industry standards, members were told. 

  • The lack of measurement standards results in vastly different scoring depending upon which of the many vendors are used. But there are efforts afoot to unify standards.
  • There’s also mixed evidence of the value-add of ESG-oriented investments: a Hamburg review of studies found a “non-negative” correlation between ESG and corporate financial performance, meaning there were mostly studies showing a positive relationship; but there were also a number of negative results. In the meantime, several sovereign wealth funds have targeted ESG believing ESG assets will outperform.
  • This lack of rock-solid evidence in addition to fiduciary responsibility of pension managers has been cited as reason for the lack of interest in the US. Some participants said that they haven’t changed asset allocation in the US to reflect ESG. 
  • There is an effort underway in the EU to create uniform pension regulations, although Brexit means that UK will not be part of this work. However, UK interest in ESG is strong.
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What the Experiment With Modern Monetary Theory Means for Risk Managers

Treasury and finance teams need to adapt to the reality of different thinking about debt and deficits.

By Joseph Neu

“We’re not even thinking about thinking about raising rates,” Fed Chairman Jerome Powell said after the Federal Open Market Committee’s June meeting.

  • This was good timing for me: On the same day, I suggested to clients of Chatham Financial attending a virtual summit that among the accelerating trends treasury and financial risk managers need to prepare for is the current flirtation with Modern Monetary Theory.

Study up on MMT. For those with a limited understanding of MMT, including me, it’s time to bone up, because without really saying they are doing so, governments and central banks of developed nations seem to be pushing us very close to something that will end up looking like an MMT experiment.

Treasury and finance teams need to adapt to the reality of different thinking about debt and deficits. 

By Joseph Neu

“We’re not even thinking about thinking about raising rates,” Fed Chairman Jerome Powell said after the Federal Open Market Committee’s June meeting.

  • This was good timing for me: On the same day, I suggested to clients of Chatham Financial attending a virtual summit that among the accelerating trends treasury and financial risk managers need to prepare for is the current flirtation with Modern Monetary Theory. 

Study up on MMT. For those with a limited understanding of MMT, including me, it’s time to bone up, because without really saying they are doing so, governments and central banks of developed nations seem to be pushing us very close to something that will end up looking like an MMT experiment. 

  • The zero-rates-for-the-foreseeable-future policy coming out of the Fed is telling, because one of the tenets of MMT is to set rates at zero to borrow more efficiently to cover needed government spending and print money to repay it. Apparently, though, some MMT proponents suggest that it’s even more efficient just to print money to cover government deficits and not issue any debt at all.
  • It’s probably safer to keep the government debt issuance going for now as it underpins private sector debt financing, credit and interest rate management. Many of us have to unlearn what we’ve been taught about printing money and inflation, too, before we stop worrying about how we will pay off government debt. 
  • Taxes, in the MMT view, are not to increase cash flow to pay the debt but to take out excess printed money from the system so that we don’t get to hyperinflation.

After studying MMT, those of you who are treasury and financial risk managers should consider: 

  • Changing your thinking about financial risk. The developed world seems to be on a mission to test MMT. Time to adjust thinking to that reality.
  • Rethinking your fixed-rate bias. For current policy to work, we need low rates (even zero, if not negative) to be the norm, so the economics of swaps or interest-rate risk management isn’t necessarily going to be the same.
  • Accepting central banks as financial market primaries. The massive central bank intervention crisis playbook has sped up. How much more can the Fed do before it becomes the primary financing mechanism for everything? 
  • Is your company a have or a have not? The divide between those that have unlimited access to capital and those that do not will widen—and it is not limited to sovereigns. If sovereigns have unlimited ability to finance deficits and issue debt, they also have unlimited ability to support the financing of entities they deem unworthy of failure. Meanwhile, the financially strongest private entities will look for an equivalent power to print money. 
  • Becoming “antifragile.” MMT (or whatever governs our financial economic situation now) is not likely sustainable; or if it is, the transition to everyone believing it is unlikely to be smooth. So risk managers must promote resilience in preparation for the unknown of what comes next.
    • If you subscribe to Nassim Taleb’s view, then the most resilient risk management approach is to become “antifragile.” That is, strive to manage risk through the transition to MMT (or whatever we end up with) so that you can benefit from shocks while thriving and growing when exposed to volatility, randomness, disorder and stressors. And don’t forget learning to love adventure, risk and uncertainty.
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Transition to SOFR Pushing Ahead Despite Pandemic

The pandemic and its aftermath forced bank treasurers to move the Libor-to-SOFR transition to the back burner; but make no mistake, it is still very much still on the stove.

With apologies to the real estate industry, there were three critical issues that mattered to bank treasurers before the pandemic: 1) Libor to SOFR transition, 2) Libor to SOFR transition and 3) Libor to SOFR transition. But now, given COVID-19’s damaging impact on world economies, banks have been presented with new priorities, like securing adequate liquidity and the Paycheck Protection Program (PPP). 

This mindset has led many banks to thinking that they should back-burner the transition until the coast is clear. Another driver of this thinking is that many treasurers haven’t been so keen on moving away from Libor in the first place.

The pandemic and its aftermath forced bank treasurers to move the Libor-to-SOFR transition to the back burner; but make no mistake, it is still very much still on the stove.

With apologies to the real estate industry, there were three critical issues that mattered to bank treasurers before the pandemic: 1) Libor to SOFR transition, 2) Libor to SOFR transition and 3) Libor to SOFR transition. But now, given COVID-19’s damaging impact on world economies, banks have been presented with new priorities, like securing adequate liquidity and the Paycheck Protection Program (PPP). 

This mindset has led many banks to thinking that they should back-burner the transition until the coast is clear. Another driver of this thinking is that many treasurers haven’t been so keen on moving away from Libor in the first place.

Lingering skepticism. Several members of NeuGroup’s Bank Treasurers’ Peer Group (BankTPG), meeting virtually recently, revealed wariness of jumping on the SOFR train too soon. “People want someone else to be first mover,” said one member in a breakout session at the meeting, which was held virtually. There was not a lot of interest at his bank, he said, adding that SOFR-based lending “would be sticking out like a sore thumb” among peers. Another member said his bank was “not operationally ready” to move off Libor. “We could find an alternative rate,” he added. 

  • There is “a lot of discovery that hasn’t been done yet,” noted another member in the breakout. “The lending business has to evolve.” Another member added there are “a lot of things we can’t do operationally,” however, what he said the bank should be doing “is educating our customers: whatever replacement they’re going to.” 

Unfortunately, bank treasurers are going to have to overcome their hesitancy. 

The show must go on. According to a presentation at the meeting by Tom Wipf, Vice Chairman of Institutional Securities at Morgan Stanley and Chair of the Federal Reserve’s Alternative Reference Rates Committee (ARRC), the committee is “taking the timelines provided by the official sector as given and continuing its work, recognizing that although some near-term goals may be delayed, other efforts can continue.” 

In other words, do not assume Libor will continue to be published at the end of 2021, Mr. Wipf told meeting attendees. One of the official authorities the ARRC cites is the UK Financial Conduct Authority. The FCA in late March said the end-Libor date “has not changed and should remain the target date for all firms to meet.” 

  • “The transition from Libor remains an essential task that will strengthen the global financial system. Many preparations for transition will be able to continue. There has, however, been an impact on the timing of some aspects of the transition programmes of many firms,” the FCA said in a statement.
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March Madness: Searching for Answers on Cash Flow and Credit

Data from Clearwater underscores the concerns of treasury investment managers reducing risk during the pandemic.

If you needed any more proof that the pandemic has made treasury investment managers even more attuned to the risks in their portfolios, check out the table below from Clearwater Analytics, which sponsored a NeuGroup meeting this week on market trends and improving balance sheet management.

Cash flow and credit. It may not be surprising, but relative to other searches, the sheer number of views in March of data on cash flow projections for securities and portfolios—more than 13,000—captures exactly what was the top concern of nearly every portfolio manager.

Data from Clearwater underscores the concerns of treasury investment managers reducing risk during the pandemic.

If you needed any more proof that the pandemic has made treasury investment managers even more attuned to the risks in their portfolios, check out the table below from Clearwater Analytics, which sponsored a NeuGroup meeting this week on market trends and improving balance sheet management. 

Cash flow and credit. It may not be surprising, but relative to other searches, the sheer number of views in March of data on cash flow projections for securities and portfolios—more than 13,000—captures exactly what was the top concern of nearly every portfolio manager.

  • Also noteworthy is the 84% jump from the prior month in credit events inquiries. The investment manager for a large technology company who described his experience and thinking in the last several months said that keeping track of the volume of downgrades and other credit actions was “breathtaking.”
  • The same manager told his peers about having eliminated stakes in “industries we didn’t like” and reducing investments in energy, retail and health care credits. He said his team spent “an ungodly amount of time on credit.” 
  • And while not every treasury team does its own credit analysis, a widespread focus by managers on vulnerable sectors underlies the more than doubling (111%) in Clearwater views during March of portfolio exposure by industry. 

Governance and communication. The importance of strong governance emerged as a key takeaway from the meeting. It’s critical, as several NeuGroup members noted, that a company’s management team not only understands the risks taken by the investment team but are also comfortable with them before a significant market disruption like that experienced this year.

  • One member asked others if they were receiving any pressure from management to boost investment returns now that interest rates are closer to zero. And while managers whose companies issued debt at wide spreads in March said senior management is interested in reducing interest expense, that is not translating into pressure to take on greater risk with the cash.

Look around the corners. That said, investment managers who survived the first quarter and are now looking toward closing the books on the second are asking plenty of questions about how to position themselves for what lies ahead—much of which is uncertain. Many said they are still asking, as one of them put it, “What is the right amount of credit risk, liquidity, market risk, etc.” 

  • Whatever they do with cash in the months ahead, members are well advised to heed the warning of one peer who is constantly asking “what if we’re wrong?” in assessing what’s next. He noted that many observers doubted COVID-19 would move beyond Asia. That points up the critical need, he said, to keep doing stress tests. Without them, he said, “It’s hard to react if you’re on the wrong side of it.”
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Juneteenth and Beyond: NeuGroup Member Companies Take Action on Racial Justice

Treasurers at major retailers discuss what’s been done so far and what lies ahead.

Calls for major societal change in the wake of the killing of George Floyd have sparked many corporations, including NeuGroup member companies, to take a range of actions in support of change and racial justice. For some, those actions included the observation of Juneteenth, which commemorates the end of slavery in the US.

Treasurers at major retailers discuss what’s been done so far and what lies ahead.
 

Calls for major societal change in the wake of the killing of George Floyd have sparked many corporations, including NeuGroup member companies, to take a range of actions in support of change and racial justice. For some, those actions included the observation of Juneteenth, which commemorates the end of slavery in the US.

  • At a NeuGroup virtual meeting for retailers last Friday on changing regulation and business norms post-crisis, a member from a major American retailer described his company’s quick decision to make Juneteenth (June 19) a company holiday.
  • Noting that the company doesn’t typically move as quickly, he credited its fast action to its cross functional crisis leadership team which is approaching the company’s reaction to recent events as it would a crisis such as a hurricane or COVID-19.
  • The company kept stores open but paid time and half to hourly workers on Juneteenth; other, eligible workers had the option to take the day off with full pay; and the company’s headquarters offices were closed.
  • “As we pivoted to this issue, we had to decide if we wanted to follow or lead,” the member said. “We wanted to lead.” 

Education and sincerity. One participant, who is African American, encouraged others on the call to better educate themselves on matters of slavery and black history, noting that few on the call knew the meaning of Juneteenth until recently.

  • This treasury professional said that what matters is sincerity and action, not talk, taken to address underlying problems. She said there is a difference between “what you know is expedient and what is taken to heart, what is sincere and what is a press release.”

 A good start. Another participant noted the pride he felt in seeing how both his current and former employers have tackled the issue of race head-on, including the CEO of the company where he works now urging conversation and learning. “I couldn’t be prouder of how people have responded,” he said.
 
Accelerated change.  In the last few weeks, the national conversation shifted from COVID-19 to racial justice crisis, focused on diversity and inclusion and black lives.

  • That, observed NeuGroup founder Joseph Neu, highlights the extent to which COVID-19 has forced business thinking to be open to accelerated change and the urgency for companies and finance teams to embrace a faster pace of change for good.

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Can You Save A Month a Year Automating FX Trades?

360T says corporates can use the roughly four weeks saved by automating FX “nuisance trades” to spend time on more valuable analytical work.

The graphic below demonstrates some of the benefits of automating FX trades described by technology provider 360T at a recent interactive session for NeuGroup members called “Demystifying Automated Trading Across the Trade Lifecycle.”


360T says corporates can use the roughly four weeks saved by automating FX “nuisance trades” to spend time on more valuable analytical work.
 

The graphic above demonstrates some of the benefits of automating FX trades described by technology provider 360T at a recent interactive session for NeuGroup members called “Demystifying Automated Trading Across the Trade Lifecycle.”

  • The time savings accrue by eliminating the need to manually enter orders onto trading platforms, examine the pricing offered, choose among competing banks (and sometimes talking to them on the phone) and then deal with all the required back-office chores involved.
  • 360T’s presenters said that by automating the workflow trading process using rules-based trading execution technology that connects directly to a company’s treasury management system, users save time, achieve the best possible price—improving their spreads—and reduce operational risk caused by human errors.

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Pandemic Creates Too Many Unknowns to Change Pension Strategies

Pension managers struggle with strategy amid a pandemic pace unlike the drawn-out financial crisis.

Rapidly changing conditions during the pandemic have made it extremely difficult for many NeuGroup members and other treasury practitioners to create forecasts and devise strategies. Pension fund managers are in the same pickle, finding it nearly impossible to change their overall pension strategies given how fast the landscape is shifting.

Pension managers struggle with strategy amid a pandemic pace unlike the drawn-out financial crisis.
 
Rapidly changing conditions during the pandemic have made it extremely difficult for many NeuGroup members and other treasury practitioners to create forecasts and devise strategies. Pension fund managers are in the same pickle, finding it nearly impossible to change their overall pension strategies given how fast the landscape is shifting.

  • This is a far different predicament than during the 2008-09 financial crisis, which was a slow-moving disaster.
  • “The financial crisis evolved over time, so you had a lot of time,” said one member at a recent NeuGroup Pension and Benefits virtual meeting. “In COVID, you don’t have much time – you don’t know what things will be like a week from now.”
  • At the peak of the COVID crisis, pension managers focused on liquidity concerns—sometimes exacerbated by margin calls—and immediate benefit payment requirements.

Back seat. With market, credit and liquidity risk front and center, longevity risk management, which has minimal linkage to market conditions, has taken a back seat. Similarly, buy-outs and buy-ins—where plans buy annuities—are not currently priority projects. 

  • Buy-outs are on the back burner because many companies have already transferred low-balance participants because the economics are pretty powerful; that’s especially true of younger participants (whereas it becomes almost impossible to transfer longtime employees).

No enthusiasm for handouts. There was mixed enthusiasm for legislative initiatives like the American Benefits Council (ABC) proposal for new funding relief in light of the havoc COVID-19 has inflicted on defined benefit pension plans. This is because many investment-grade companies don’t face mandatory contributions in the next few years despite the market downturn, thanks to outstanding pension relief and previous proactive pre-funding. 

  • Nonetheless, funding relief remains a very important issue for some meeting participants; also, the Health and Economic Recovery Omnibus Emergency Solutions Act (HEROES) passed by the US House apparently already includes many of the ABC provisions that would result in substantial funding relief. HEROES was previously estimated to equate to roughly five years of funding holiday.

Fixed income. In drilling down on fixed-income strategy, one sponsor presenter said that, broadly, there are three phases of a crisis: a liquidity crisis, a credit crisis and, finally, an inflation crisis. He believed that we are at the start of the credit crisis stage. He noted that central banks are supporting some categories of assets but not others, with clear trading implications. 

  • It is hard to evaluate some asset categories based on cash flows that are currently being deferred by many borrowers (such as rents) because it’s not known how much and how fast the deferred amounts will get repaid.
  • Also, it was explained how increases in operating costs can erode margins and also increase leverage—particularly in the high-yield space. Ultimately, members should worry about inflation because how else will all the government and private sector debt get repaid?
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Pensions Look for Re-Entry, Re-Risk Opportunities

Pension managers were de-risking at the end of 2019, much to their relief months later; now it’s time to add some risk.

Although pension managers have been de-risking over the course of the last several months – and continue to do so in different areas – many are now on the hunt to re-enter the market to re-risk. “Can we be nimble enough to pounce given the opportunities that are out there?” wondered one member of NeuGroup’s Pension and Benefits (NGPB) peer group at a recent virtual meeting.

Pension managers were de-risking at the end of 2019, much to their relief months later; now it’s time to add some risk.

Although pension managers have been de-risking over the course of the last several months – and continue to do so in different areas – many are now on the hunt to re-enter the market to re-risk. “Can we be nimble enough to pounce given the opportunities that are out there?” wondered one member of NeuGroup’s Pension and Benefits (NGPB) peer group at a recent virtual meeting.

LDI. Liability driven investment and de-risking clearly was the winning strategy at the end of 2019, which caused collective sighs of relief when the pandemic hit. 

  • Overall, the sentiment was that the equity market now seems to have gotten ahead of itself, so some participants are keeping some liquidity available for market downturns. 

Different paths. One theme emerging from a projects and priorities discussion at the meeting was that there was no uniformity in pension strategy among member companies. There is no gold standard “answer.” Why? Because of variations in underlying situations, such as companies with active vs. frozen plans, varying demographics of plan participants, and well-funded plans vs. those with a large deficit. 

  • The current roller-coaster environment makes it challenging to shift pension strategy, particularly given corporate governance issues and board oversight.

An example of this is different approaches to glide paths: some companies only have de-risking triggers as funded status improves, others have re-risking as well when equity investment value declines, and others have no defined glide path at all. 

  • In one sponsor presentation on pension risk management, a more sophisticated evolution was presented using outright option positions, collars and option replication using delta hedging.  

Options an option? Still, these strategies are challenged by the currently high volatility behind option pricing and, in particular, the volatility skew which makes out-of-the-money put options particularly expensive. 

  • It sounded like a few meeting participants had investigated these strategies but again are challenged by governance issues in authorization for them. Some participants are not even using derivative overlays at this point. Derivative overlays facilitate rapid shifts in risk position without the costs of buying and selling underlying cash investments, and also allow for better management of overall risk.

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Economic Forecast: Outlook for Recovery Improving, but Numerous Risks Remain

Evercore ISI economist Dick Rippe lays out the case for second-half growth after a first-half plunge.

The increased difficulty of cash forecasting and other financial planning since the COVID-19 outbreak means that many treasury and finance teams are eager to hear informed economic analysis and forecasts while we all wait for a vaccine.

  • At a NeuGroup meeting in late May, Dick Rippe, managing director and economist at Evercore ISI, provided his firm’s US and global economic outlook and responded to member questions. Mr. Rippe this week provided updates to his firm’s forecast and analysis.

Evercore ISI economist Dick Rippe lays out the case for second-half growth after a first-half plunge.

The increased difficulty of cash forecasting and other financial planning since the COVID-19 outbreak means that many treasury and finance teams are eager to hear informed economic analysis and forecasts while we all wait for a vaccine.

  • At a NeuGroup meeting in late May, Dick Rippe, managing director and economist at Evercore ISI, provided his firm’s US and global economic outlook and responded to member questions. Mr. Rippe this week provided updates to his firm’s forecast and analysis.

Two quarters of pain. Evercore ISI forecasts the economy will contract by a 40% annual rate in Q2, following a drop of 5.0% in Q1. Mr. Rippe noted that the combined decline in the first two quarters is the largest in the post-World War II period. 

  • The firm has counted over 1,300 instances of layoffs, pay cuts, and business or institution closures; many of these may be temporary, but as they occur, they reverberate throughout the economy, Mr. Rippe said. 

Encouraging signs. Evidence of an upturn has been accumulating rapidly in Evercore ISI’s view:

  • Employment picked up in May (after an enormous fall in April); filings for unemployment insurance – while still high – have diminished substantially in recent weeks; and retail sales rebounded sharply in May, as have auto sales. Similar gains are being seen in China and Germany.
  • Massive economic stimulus is being provided by both the Federal Reserve and the fiscal authorities in Congress and the Trump Administration.
  • A major GDP driver is consumer net worth—the value of houses, securities, and bank accounts. It is close to an all-time high, Mr. Rippe said, adding that it fell much further during the 2008-2009 financial crisis than it did when the coronavirus pandemic started.


Growth likely to resume in H2. Based upon those signs and fundamentals, Evercore ISI updated its economic forecast to show a faster recovery in the second half of 2020.

  • The forecast now shows growth in both Q3 and Q4 at a 20% annual rate; even so, measured from Q4 2019 to Q4 2020, real GDP is expected to decline by 4.8%.
  • Evercore ISI forecasts an increase of 5.0% in 2021. 
  • The improvements depend upon maintaining simulative economic policies which will help keep companies open and consumers solvent, Mr. Rippe said.
  • The emergence of a country-wide second wave of infections would be very damaging, he added. On the positive side, the rapid development of a vaccine would allow a much more secure economic advance.

Dollar doldrums? Responding to a member’s query about the outlook for the US dollar, Mr. Rippe noted that low interest rates brought about by highly accommodative monetary policy would usually be expected to lower the dollar. But in the current global environment, almost all central banks are moving in the same direction. So while the dollar might decline a little, no big move was likely, he said.

Negative Rates? Addressing another member’s concerns about short-term rates possibly going negative, Mr. Rippe said that given the US’s productive economy, when growth resumes negative rates won’t be necessary. And the Fed would go negative only in an absolute emergency, he said, because of the havoc it would reap on money-markets.

  • “But if you asked me three years ago to bet on what German 10-year bond yields would be, I never would have bet they would be negative.”
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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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