Treasury: driving growth
INSIGHT TO POWER YOUR BUSINESS GLOBALLY
Key articles
Why translation risk
must be tackled
Find new ways to
convert assets
into cash
Six trends changing
the face of supply
chain finance
Find out what we think
rbs.com/insight
Foreword
These are testing times for corporate treasurers and transaction bankers alike. Tighter regulation,
turbulent world affairs and an unsteady economy have added complexity to the business environment.
The only constant is change, and agility is vital as developments deliver challenges and opportunities in
equal measure.
Welcome to the new normal.
At RBS, we are dealing with this ever-changing landscape by staying focused on our clients and ensuring
they benefit from our global reach, leading expertise and world-class products and services.
Our network across more than 30 countries enables us to respond to clients’ needs and power their businesses globally. Wherever
they operate they have access to our cash and liquidity management business, one of the largest in the world, and a top trade
financing team.
Underpinning all this is the experience and knowledge of our people, the importance of which will never change. We are proud to be
trusted adviser as well as transaction bank to our clients.
It is our expertise that you’ll find in this book. Over the following pages our people present their thoughts and opinions on a range of
hot topics – from QE to ratings, from supply chain finance to cloud computing.
I hope you find these articles informative as we all prepare to face the future together.
Carole Berndt
Global Head Transaction Services, RBS
Contents
Find new ways to convert assets into cash
4
Treasurers are the winners from FX revolution
6
Why borrowers should consider Export Credit Agencies
8
Why translation risk must be tackled
10
Ride the next wave of standardisation
12
New rules for derivatives pose questions for corporates
14
Asset-heavy firms should explore different forms of financing
17
ECB will be forced to launch QE
19
Ratings overhaul ramps up21
How the cloud will reshape transaction banking
25
Break down the BPO barriers
28
Five things: transforming trade transactions with MT798
30
Six trends changing the face of supply chain finance
32
Speak to us
For more information on how Global
Transaction Services can support your
business needs, contact your local
RBS representative or visit rbs.com/ts
Find new ways to a low
cash conversion cycle
BY DEVASHIS DAS, DIRECTOR, GLOBAL TRANSACTION SERVICES
PRODUCT AT RBS
Companies need to work out new ways to convert assets into cash or
they will lose out to online competitors.
The growth of e-commerce and mobile
collections means corporations are getting
paid faster and reducing the amount of
inventory on their books. This gives them the
opportunity to extend better payment terms to
suppliers, improving their cash conversion
cycle (CCC) – the time it takes to convert assets
into cash – by making it as short as possible.
cash straight away and they can receive and
reconcile payments much faster, they can
achieve a very low level of days sales
outstanding (DSO). Also, as they can acquire
items after receiving the order from their
customers, they can achieve an efficient, ‘just in
time’ inventory, minimising their days inventory
outstanding (DIO).
Online companies such as Amazon and
Chinese trade group Alibaba, which connects
billions of consumers directly to thousands of
suppliers, are transforming the payments
landscape. Such companies can negotiate
better deals with their suppliers because of their
stronger buying power and ability to offer a
wider market for sales.
Many bricks and mortar firms attempting to
match them are finding it tougher to manage
their working capital effectively.
“ Companies must do all they can to
boost their working capital as
technology and new ways to pay
make it tougher to reap rewards
from more established cash
management techniques. ”
This is a real problem because optimising
their CCC should be the cornerstone of any
treasury to ensure the company is competitive.
Our analysis shows there has been a
direct correlation between improved CCC
and revenue growth for the S&P 500
companies since 2008. Reasons for this
include increased follow-ups over outstanding
sales and tighter control over supplier credit
since the financial crisis.
Traditional companies are therefore looking at a
number of ways to improve their CCC and
optimise working capital.
Our analysis of public accounts shows that the
world’s top e-commerce retail companies by
revenues were able to hold off paying their
invoices for almost 78 days on average in 2013,
keeping the cash on their balance sheets, while
their traditional competitors had to pay within 51
days. It is a similar story going back to 2009.
Tools like supply chain finance, which enables
corporations to negotiate more flexible payment
terms and offer cheaper financing options to
suppliers, have risen in popularity as
companies look for new ways to boost their
working capital.
Retail companies using e-commerce for online
selling, distribution and reconciliation of sales
have a clear advantage over their traditional
competitors when it comes to the order-to-cash
process as well. As goods are converted into
One of the ways treasurers are looking to
accelerate the receipt and reconciliation
process is by adopting invoice data enrichment
programmes, e-invoicing, e-receivable
methods and other bank-driven programmes to
4
Summary
Bricks and mortar
companies are
looking to convert
assets into cash
faster and optimise
working capital
They need to keep
up with online
competitors who
have a number of
advantages
Solutions include
supply chain finance,
e-invoicing and
non-cash payments
CCC improvement and revenue growth trend - S&P 500
15.00%
(10.00%)
(8.00%)
(6.00%)
10.00%
(4.00%)
(2.00%)
2008
2009
2010
2011
2012
2013
5.00%
0.00%
2.00%
0.00%
4.00%
6.00%
(5.00%)
8.00%
10.00%
CCC improvement
12.00%
Revenue gr ow th
(10.00%)
Source: RBS
There is a strong link between improved CCC and revenue growth for the S&P 500
speed up the reconciliation process of
outstanding accounts receivables. Such tools
have demonstrated sporadic success so far.
In addition, there are opportunities to collect
cash quicker through non-cash payments
– which are growing at a rapid pace globally.
This is partly because of the economic recovery
in developed countries and the continued,
rapid rise of emerging markets. This helps
companies selling to consumers and small and
medium enterprises achieve a low level of DSO.
A specific issue faced by global firms making
their own goods and shipping them all over the
world is that doing so typically leads to a big
‘work-in-progress’ inventory and hence a bigger
level of DIO. Companies can reduce the level of
inventory by shifting manufacturing bases
closer to their selling centres or shifting from
producing their own goods to buying them from
elsewhere, wherever possible.
The use of SWIFT as a payment mechanism
and, lately, ISO 20022 XML as a standard
has been getting greater traction from
corporations looking to make the most of
their working capital. ISO 20022 enables
companies to unify and standardise transaction
types and make and receive payments in
multiple countries across multiple banks
and payment methods.
Many governments and clearing houses
have started adopting these standards
within their payment schemes, such as SEPA
in the eurozone and FAST in Singapore, with
many other countries set to use them soon.
These standards and the Common Global
Implementation (CGI) forum mean corporations
can review, discuss and adopt unified payment
methods and potentially achieve faster cash
conversion.
Whatever mix of methods they choose to adopt,
companies must do all they can to boost their
working capital as technology and new ways to
pay make it tougher to reap rewards from more
established cash management techniques.
Embracing new opportunities will help them
compete with their online rivals.
This article was first published in gtnews at
www.gtnews.com
5
Treasurers are the winners
from FX revolution
BY TIM CARRINGTON, GLOBAL CO-HEAD OF CURRENCIES
Summary
Treasurers will control
FX and other bank
services through
in-house systems
The foreign exchange
market is undergoing
a revolution. Control
is moving out of bank
dealing rooms and
into company treasurers’ offices.
The expansion of electronic FX dealing is
forcing banks to reconsider their pitch as the
traditional advantages of scale and reputation
are eaten away in an increasingly
commoditised marketplace. Treasury
departments will be among the big winners.
“ Clients won’t care if a bank is the
biggest name in a particular
currency pair. Even the execution
of the trade will become a
secondary consideration.”
Having developed a highly transparent and
liquid market where trades are executed in
milliseconds, the banking industry’s next
challenge is to make the client side of the trade
equally efficient. If that happens, five years
from now FX trading should be one element in a
suite of services integrated into a company’s
6
own systems and available to the treasurer
through a single interface.
Corporates may not know it yet, but their
demands are more likely to be focused on ease
of execution, platform reliability and support in
navigating costly post-trade settlement and
ever-more complex regulations.
Historically, banks have done these things to
support trading activity, but they are likely to
become the decisive factor in winning and
losing business. Clients won’t care if a bank is
the biggest name in a particular currency pair
and even the execution of the trade itself will
become a secondary consideration. Since
technology will limit the ability of banks to make
trades much faster or cheaper than they are
today, clients will judge banks on their broader
service offering.
Banks require a sea change in thinking to
respond to this shift. Our first job is to break
down bank silos – from transaction banking to
rates, cards or foreign exchange – that simply
do not correspond to treasurers’ banking
demands. Companies run transaction-focused
businesses, where an FX trade may be just
one element of a deal that also includes debt
capital raising, export guarantees and
regulatory clearance.
Companies will
choose banks on
basis of value-add
service, not the trade
Despite more
automation, ‘human
touch’ will be more
important than ever
Banks may adopt the
Amazon model and
offer products
from competitors
Time and again I see clients executing an FX
deal, not in order to lock in the best exchange
rate and save themselves millions, but only as
they reach the ‘FX part’ of a workflow that can’t
be accelerated. Banks must see themselves as
facilitators for a client’s entire business, not just
financiers of it.
Integrating FX with other bank services and
fusing these with clients’ business management
systems is one way this new thinking might
become a reality. The goal is one interface – not
dozens of logins – in which an FX trade can be
automatically triggered on the back of another
payment or credit.
Will these advances in automation mean people
play less of a role in forex? In the simple
execution of trades, that’s absolutely the case.
Computer trading only accounted for about a
third of spot FX volumes five years ago, today it
makes up nearer two thirds and by 2020 phone
trading is likely to be virtually obsolete.
But in supporting clients’ attempts to keep pace
with rapidly shifting regulations, the human
element becomes more important than ever.
Consider how regulation is fracturing liquidity in
FX markets and the impact that is having on
corporates. Already the plethora of trading
platforms, the rise of boutique foreign exchange
brokers and increasing demand for emerging
market currencies has splintered liquidity. Now
regulations, on both sides of the Atlantic, are
dividing that liquidity into even smaller pools.
This is a problem for a market in which USD5.3
trillion is traded every day.
The arrival of swap execution facilities (SEFs),
following the introduction of Dodd Frank for
example, will divide the market for nondeliverable forward currencies like the renminbi
and Brazilian real into ‘on-SEF’ and ‘off-SEF’
pools. Clients need to know: what times
during the day are these pools deepest?
Should I deal with a counterparty who is ‘on’
or ‘off-SEF’? When am I compelled to trade in
one or the other?
Clients need more support in post-trade
reporting of deals that straddle multiple
jurisdictions. And our industry should offer more
post-trade analysis to help clients benchmark
the performance of their deals.
The ‘value add’ extends to more comprehensive
research and analysis of the FX markets,
elevating it to the kind of status already enjoyed
by equity markets strategists.
And in their desire to provide better services,
banks should think about offering each others’
products alongside their own. Take Amazon for
example. In charging a transaction fee from
third parties, it has turned itself from a major
online retailer into one of the world’s most
successful logistics companies.
Banks could do worse than drawing wider
lessons from Amazon in imagining the future of
FX. Easy, fast, reliable, quick to fix problems
and always anticipating the client’s demands …
even before they do.
7
Why borrowers should consider
Export Credit Agencies
BY BERT SCHOEN, PRODUCT HEAD, STRUCTURED TRADE, AND
BENEDETTO FIORILLO, DIRECTOR, EXPORT FINANCE AT RBS
Summary
Companies can broaden their borrowing and work with fewer banks
by taking on Export Credit Agencies (ECAs).
ECA funding options have developed
significantly over the past five years – a trend
spearheaded in the US but now big in Europe.
They bring borrowers the flexibility to tap into
direct lending, bank-funded guaranteed
financing and the capital markets.
The real ‘sweet spot’ is for companies seeking
medium to long-term financing for capital
expenditure (capex) and are unable to find it at
attractive rates in the vanilla loan or capital
markets.
“ ECA financing’s development, both
in terms of what it can offer and
where, means businesses with
cross-border capex should take a
long, hard look at it. ”
outset in such cases – it should be part of the
procurement process when considering which
suppliers to use.
ECAs are becoming more flexible and willing to
support transactions through advanced
structures as long as they benefit exporters.
Such structures include providing the funding
directly to the buyer or giving a guarantee for
bonds issued in the capital markets. ECAs also
offer attractive fixed interest rate denominated
Commercial Interest Rate Reference (CIRR).
As the borrower works directly with the ECA,
the number of counterparties they have to deal
with is cut significantly.
It can be of most value to those with more than
USD30 million to spend.
It has become a much more global product.
Historically, European and American ECAs
guaranteed or funded around half the world’s
ECA business – they were used mainly by
buyers based in the emerging markets.
More and more firms are using ECAs to set up
new production facilities around the world.
Businesses need to assess them from the
But Asian ECAs now play a far more prominent
role – many Chinese, Japanese and Korean
exporters are taking advantage of the large risk
8
ECA funding
has developed
significantly in
recent years
It helps borrowers
tap into direct
lending, bankfunded guaranteed
financing and the
capital markets
It is now much more
global, and is userfriendly once set up
and funding appetites of ECAs to compete
with European and US exporters. Importers
in both emerging and more mature markets
are benefitting.
Overall, ECA financing has grown considerably
in the last 10 years, reaching global volumes of
over USD100 billion in 2012 according to
Dealogic. That amount fell by about 25 per cent
last year due to a slow-down in global trade
finance, but we expect it to grow significantly
this year as markets continue recovering and
trade flows pick up.
Oil and gas was the most active sector for ECA
financing in 2013 – 27 per cent of volumes –
followed by transportation, financial institutions
and utilities.
We are likely to see a similar pattern in 2014,
although telecommunications will be the one to
watch as the 4G network expansion doubtless
leads to higher volumes.
It is a user-friendly product once set up.
The credit terms are similar to existing loans
and documentation is often based on existing
vanilla loan documentation – there is no need
to reinvent the wheel. The credit facility also
provides the opportunity to pre-pay, providing
What is Export Credit Agency financing?
• ECA financing allows exporters to
provide their customers with a funding
option to buy goods and services from
them over a set period. This is
considered reliable because it is insured
or guaranteed by the ECA which often
comes with a strong underlying
sovereign credit rating
• Such a guarantee gives banks the
comfort to offer pricing or tenors that are
competitive compared with other funding
sources. Following the regulatory
response to the financial crisis, banks
shortened corporate loan tenors to about
five years and raised prices
flexibility to the borrower when managing their
cash flow.
Companies should investigate the differences
between the ECAs involved with each potential
exporter. There is no such thing as a typical
one. Some are part of the government, some
are private companies with a separate
business unit that has the relevant guarantee
from the government.
ECAs can cover or finance short-term credit
business – like working capital finance – as well
as long or medium-term deals. The percentage
of insurance cover varies from 75 per cent to
100 per cent, and different degrees of political
or commercial risks are included.
Banks can help their clients through the
procurement and financing processes. They
can also advise on how to get the most out of
this type of financing.
ECA financing’s development, both in terms of
what it can offer and where, means businesses
with cross-border capex should take a long,
hard look at it.
They could find doing so to be one of the best
moves they make this year.
The benefits of ECA-backed financing
• Long tenors – from five to 12 years and
beyond for construction and delivery
• Attractive pricing
• No negative carry – use of credit
matches investment (commitment
fee only)
• Credit terms similar to or better than
existing debt instruments
• Typical cover 85-100 per cent for political
and commercial risk from AA/AAA rated
government entities
• However, ECA financing means
companies can diversify funding and
achieve tenors of up to 10 or 12 years at
attractive, stable prices
• It can be used to fund all cross-border
capital expenditure
9
Why translation risk must
be tackled
BY MARK O’GORMAN, VICE PRESIDENT, AND EU-JIN ANG, SENIOR
DIRECTOR, CORPORATE ADVISORY AT RBS
Summary
Multinational companies that fail to tackle currency translation
risk could see serious dents in their income, investor appetite
and access to funding.
There is a popular misconception that
translation risk is merely an accounting
anomaly. Some think that any FX fluctuations
cancel themselves out over time and revert to
their long-term average rate.
But that is a dangerous belief. Translation gains
and losses reflect real economic exposure. The
rise of emerging markets has made this issue
more important than ever as currency volatility
undermines growth.
“ The important thing is to stop
dismissing translation risk as a
quirk, take it seriously and
act accordingly.”
Investors tend to like a company that moves
into growth areas, but they don’t necessarily
like the currency risks. It is difficult to manage
the currency exposure arising through a
company because they don’t have enough
timely information.
10
For corporates themselves, translation risk
can crystallise into an impact on cash in
several situations.
For example, if due to financial stress or a
restructure a company has to sell an asset, they
may have to sell it at the FX rate at that point in
time, rather than having the luxury of waiting for
a better rate.
Equally, if companies are relying on upstreaming income from foreign subsidiaries to
pay dividends or service debt, the flow of that
money through the group will lock in any
currency gains and losses on foreign earnings.
For these reasons, it can affect a company’s
credit rating and threaten the cost and
availability of credit. Rating agency Moody’s
recently published a report on the beverage
industry which highlighted the dangers
translation risk posed to particular companies
in the sector.
Translation risk is a
real danger, not an
accounting anomaly
as many believe
It can affect a
company’s credit
rating and threaten
the cost and
availability of credit
The rise of emerging
markets makes
dealing with it more
important than ever
as currency volatility
undermines growth
Banks may also look at the translated numbers
when setting and testing their covenants so it
could lead to a restriction on how much a
company can borrow from both the loan and
capital markets.
This all raises serious questions over whether
companies can or should just watch the value
of their foreign earnings fluctuate from
translation effects and point to underlying
business performance while their immediate
cost of funding is threatened.
Treasurers often traditionally believed
diversification saved them from translation risk,
the idea being that movements in different
currencies go some way to cancelling each
other out.
However, while a group may operate across,
say, 20 different currencies, the bulk of their
business might be in two or three that move
together. As such companies need to fully
understand where the biggest risks to their
bottom line lie and decide how to deal with
them. It is not practical or cheap to hedge every
currency, so battles must be picked.
Translation risk has become more of a problem
in today’s markets where central bank-led
currency wars have made devaluation
more common.
Emerging markets are a particular problem
because their currencies tend to stay flat or
even gently appreciate over time, before a
sudden and sometimes significant drop. The
gentle appreciation is easily undermined by
political risk, other global events or contagion.
The translated value of foreign earnings from
emerging market subsidiaries then follows.
Banks provide various currency debt
optimisation exercises which help treasurers
decide where to focus their energy, for example,
to minimise cashflow at risk or the impact on a
particular financial metric under threat. It is
important to do this because many emerging
markets currencies have high interest rates and
are expensive to hedge – businesses will want
to make sure they are getting the biggest bang
for their buck.
Other things businesses can do to deal with
translation risk include:
• Optimising the debt currency mix –
matching the currency mix of debt with
that of the group’s incomes
• Earnings hedges – while this is not
accounting friendly beyond the current
accounting period, intra-period hedges
can smooth out currency impacts
• Natural, operational offsets – similar to
the concept of a debt currency mix, this
involves seeking natural hedges through
operational flows
• Local financing – the translation of local
funding, in the local currency, will provide an
offset/partial offset to that entity’s earnings
• Buffers – some companies include a mark-up
on the price of foreign sales that can be
adjusted to allow for currency movements,
although this may impact the company’s
ability to compete on price
The important thing is to stop dismissing
translation risk as a quirk, take it seriously and
act accordingly. Many companies have
historically had a policy of not hedging
translation risk. Today, many are considering
whether this is an appropriate position to take.
Headlines, rating reports and analyst questions
suggest it might not be.
What is translation risk?
Translation risk arises in three main forms:
• The translation of foreign currency debt, deposits or other ‘monetary assets’
• The translation of the net assets of foreign subsidiaries
• The translation of earnings of foreign subsidiaries
In the first two cases, a change in the foreign exchange rate between the monetary
or net assets’ currency and the group’s functional currency – typically the currency financial
statements are prepared in – from one accounting period to the next gives rise to higher or
lower balance sheet values and a gain or loss.
In the third situation, a depreciation in the currency of the foreign subsidiary’s earnings in one
period compared to the last will see the group’s total earnings decline even where underlying
business performance has remained constant over the two periods.
11
Ride the next wave of
standardisation
BY TINO KAM, CASH PRODUCT DIRECTOR, GLOBAL TRANSACTION
SERVICES AT RBS
Summary
The stage is set for treasurers to build on the standardisation
achieved through SEPA to consolidate transactions, rationalise
accounts and improve reporting and reconciliation.
Treasurers are increasingly handling
transactions through payment and collection
factories or in-house bank solutions run by a
shared service centre – a central unit within
their organisation where transactions are
bundled, processed and reconciled.
“ Another big benefit is that
treasurers can now combine
payments with other traditionally
separate areas such as FX. ”
This achieves economies of scale, increased
efficiency and reduced costs. The use of
‘payments on behalf of’ extends the benefits
further by reducing the costs of account
maintenance as well.
It involves in-house banking, which enables
treasurers to net-off intra-company positions
without using bank accounts – avoiding fees
and the extra time it takes to settle. Internal
virtual accounts are set up for each subsidiary
instead of bank accounts.
12
Corporates can use these virtual accounts to
improve receivables reconciliation, setting one
up for each of their clients’ payments. They can
also facilitate an ‘on behalf of’ payments set-up.
Treasuries pay for other group entities from a
central account, linking to payment schemes in
different countries through virtual accounts so
the recipient gets the money under the
subsidiary’s name.
Another big benefit is that treasurers can now
combine payments with other traditionally
separate areas such as FX. For example,
supplier payments are often made in currencies
companies do not hold or trade in.
By agreeing an FX spread with their banking
partner and embedding it within their payments
process, they can pay the money from a single
account without holding those currencies on
their books – creating a more efficient balance
sheet and reducing FX risks.
Treasurers are using
the standardisation
they achieved
through SEPA for
wider benefits
They are handling
transactions through
payment and
collection factories or
in-house banks
Annex reporting is
also a good way for
them to improve
reconciliation rates
Payment factories also enable easier reporting
for internal and regulatory purposes as
payment information becomes available
centrally. Companies can get more detailed
data through annex reporting. This includes a
breakdown of direct debit rejections and
separate information for cash and accounts
receivable reconciliations, creating greater
transparency and higher reconciliation rates.
Annex reporting can also be a very effective
way to improve reconciliation rates, particularly
for companies with high volumes of collections
through either direct debits or incoming credits.
Banks are supporting greater standardisation
by providing these services. At RBS we do it
through our suite of payment and collection
factory solutions and our transactional
FX products.
All this has been accelerated by SEPA, which
introduced standardisation in the European
Union and European Economic Area member
states by standardising procedures for
euro-denominated funds transfers and direct
debits; using the ISO 20022 standard for
instructions; and treating euro and cross-border
transactions equally.
Corporates have taken advantage of the array
of new XML standards set up for SEPA to
process not just SEPA payments but all
other flows that use the platform’s
ISO 20022 standards.
This has paved the way towards centralisation.
The days of setting up multi-format,
multi-system payment solutions implemented
locally are becoming increasingly rare.
Corporate treasurers under pressure to
centralise their liquidity and risk, reduce costs
and boost efficiency are considering these and
other opportunities as they pull together their
future cash management roadmaps. There is
no quick fix – it can take years to get everything
in place – so it’s vital they start planning now.
Payment and collection factories – the benefits
Standardisation and efficiency
• Consistency in payment processes enabling automation, higher straight-through processing
rates and less manual activity – lowering costs
• Fewer banking relationships and rationalised account structures
• Standardisation of euro payments through SEPA credit transfers
• Harmonised bank connectivity and file formats using SWIFT and XML ISO 20022
Visibility and control
• Visibility of internal payments and control over funding, optimising liquidity
• Easier reporting for internal and regulatory purposes as payment information becomes
available centrally
• Less fraud thanks to good process management, increased visibility and the introduction of
control policies
• Consolidated supplier visibility enabling better supply chain management and cost
negotiation
Lower costs
• Improved FX spreads with consolidated payment flows
• Better use of available funds as processes and interest conditions are optimised
• Lower transaction costs with better management of banking relationships
13
New rules for derivatives pose
questions for corporates
BY JAMIE MACLEAN, MARKETS REGULATION
Summary
Companies using over-the-counter (OTC) derivatives face a testing
time as new rules designed to improve transparency and reduce risk
come into focus this year.
The changes will not only have an impact on
financial institutions and larger European Union
corporates but also smaller companies outside
of the EU that use derivatives.
1.Certain OTC derivatives must be submitted
for clearing via authorised central
counterparties (CCPs), where the CCP holds
collateral in the form of margin payments
Among the key challenges they face are:
2.Counterparties to OTC derivative transactions
that are not subject to the clearing
requirement will have to post margin to
each other
• Determining the extent of the clearing and
margin requirements
• Understanding the impact of the margin
requirements on cash flow
Although the European Market Infrastructure
Regulation (EMIR) was introduced in 2012,
many of its rules have only recently come
into effect.
“ Interest rate swaps and credit
default swaps are going to be
the first instruments to fall under
these rules.”
These regulations aim to improve transparency
and security related to counterparty risk. To that
end two measures were introduced:
14
The clearing and margin requirements only
apply to corporates that are classified as NFC+
entities; however, the margin rules could also
apply to other companies outside of the EU.
The European Securities and Markets Authority
(ESMA) recently published a consultation paper
on margin, and two consultation papers
covering the clearing obligations for interest
rate swaps and credit default swaps
respectively.
These should help answer a number of key
questions facing companies.
New rules for
derivatives should
boost transparency
and reduce risk
Certain derivatives
transactions must
be submitted for
clearing
Companies need to
understand how the
rules apply to them
They may have to
set aside money for
margin payments
Which instruments must be cleared?
The most obvious question does not have an
obvious answer.
You might assume that where a CCP has been
authorised to clear certain types of derivatives,
those derivatives would be subject to
mandatory clearing requirements.
This is not necessarily the case.
NFC stands for non-financial counterparties;
that is, companies other than banks,
investment companies or insurers. NFCs
whose activities fall above the defined
clearing thresholds are referred to as NFC+.
CCPs are authorised by national bodies, such
as the Bank of England, but it is ESMA that
effectively decides which derivatives need to
be cleared, though the decision can be vetoed
by the European Commission and European
Parliament. Interest rate swaps and credit
default swaps are going to be the first
instruments to fall under these rules. Which
others will be included remains to be seen,
with corporates keeping a keen eye on whether
certain foreign exchange instruments will
be included.
Which clearing house to use?
The less obvious but no less pertinent question
is which CCP to use. The decision will primarily
be driven by the instruments and liquidity a
CCP provides, but other factors such as fees,
netting opportunities, rules and collateral
segregation options, as well as whether a
company’s banking relationships can provide
access to the CCPs they want, should also
be considered.
The location of a CCP may also be important.
The EMIR guidelines cover clearing in the EU
only. However, if a country outside the EU is
deemed to have equivalent rules to EMIR,
clearing there will be treated the same. Without
equivalency, European banks will have to hold
higher capital against transactions with non-EU
clearing houses which would increase
transaction costs.
European banks increase the transaction costs
of clearing through US clearing houses, or even
withdraw from doing so entirely.
Will existing transactions need to be
cleared?
Another issue that muddies the waters is the
frontloading requirement. Companies may
be required to retroactively clear transactions
that were entered into before the date on which
clearing becomes mandatory for that type
of instrument.
This potentially makes it more difficult to
accurately price transactions as they could
be subject to changes in price if they are
frontloaded, due to the higher costs associated
with clearing. It also means that companies may
prefer not to enter into certain derivatives
contracts until mandatory clearing for those
products is in force.
Under the draft regulatory technical standards,
only financial counterparties will be affected by
frontloading, with the greater impact expected
to be felt by those that are not members of
clearing houses.
Will margin need to be posted and
how much?
From 1 December, 2015, companies will be
required to post margin for non-cleared
derivatives. Only the largest NFC+ entities will
initially be impacted. Variation margin will be
required from all NFC+ entities and will cover
foreign exchange swaps and forwards, unlike
the initial margin rules.
Both initial and variation margin are
designed to reduce exposure to credit risk.
Initial margin is an upfront payment to cover
potential losses arising from a counterparty
default and is calculated based on the
maximum one-day movement in the value of
a transaction. It is returned once the
transaction expires. Variation margin is an
amount, paid at least daily, to cover the
actual profit (receive margin) or loss (pay
margin) throughout the term of a transaction.
Contentiously, both initial margin (in certain
circumstances) and variation margin will be
Several markets including Australia, Hong Kong, required from any corporates located outside
India, Japan and Singapore are shortly
the EU when they transact non-cleared
expected to be deemed as being equivalent for derivatives with EU-incorporated financial
clearing, but it is unclear whether the US will be
counterparties or NFC+ entities.
included in that list. A result could be that
This requirement could be removed if the EC
15
determines that margin regulations in the
relevant countries are equivalent to those
under EMIR.
Considerations for corporates
Corporates should continue to monitor their
activities against the clearing thresholds to
determine whether they should be classified
as an NFC+.
Those classified as NFC+ or who may breach
the thresholds to become NFC+ should
regularly assess their current and future
portfolio needs against the list of instruments
that must be cleared, and determine whether or
not to use those instruments.
If they do need to clear, they will need to make
arrangements to connect to the appropriate
CCPs, typically via their existing banking
relationships, and put in place the relevant
process to support clearing activities.
Companies with significant non-cleared
derivative positions on their books will need to
actively monitor whether they breach the initial
margin thresholds.
16
All NFC+ companies will need to assess the
cost of variation margin, including the cost of
accessing eligible collateral, and the impact on
their cash flow. They will also need to put in
place the necessary legal documentation and
operational procedures.
Corporates outside of the EU that transact
non-cleared derivatives with EU counterparties
will need to decide whether it is best to post
margin, establish a trading presence in the EU
or cease trading with the EU unless or until
equivalence is granted for their country.
Finally, those that conduct intra-group
derivatives transactions should contact the
relevant EU regulators, and non-EU regulators
where equivalence exists, to seek intra-group
exemptions from both clearing and
margin requirements.
Although there is time, corporates – and their
banks – should already be considering the
implications of the clearing and margin
regulations given the complexity of the
challenges they present.
Asset-heavy firms should
explore different forms
of financing
BY RAGHU NARAIN, HEAD OF SECTOR ADVISORY, ASIA PACIFIC,
AT RBS
Summary
Asset-heavy firms
are looking at
different funding
sources as bank
lending tightens
Asset-heavy
The problem is the wider world knows by then
that the assets are distressed and buyers offer
companies should
much less than they’re really worth.
explore alternative
forms of financing “ Companies need to be aware of
while there is
these alternative pools of money,
ample liquidity and
understand how they work and what
they can complete transactions
their requirements are.”
efficiently. Those that don’t
could be forced to sell assets or
The company falls into a whirlpool and is
hampered from investing in new assets and
face a shut market.
Businesses operating in asset-heavy industries
such as airlines, shipping and manufacturing
are considering different funding sources as
bank lending tightens.
Asset-heavy businesses need to tap into these
sources while their underlying asset values are
strong. When those values fall – usually in a
downcycle – companies risk having to sell them
because lenders call for extra equity.
Other options
include private
equity, export credit
agencies and
hedge funds
Companies need to
understand how
they work because
it can be difficult
to switch to a new
funding source
growing its business. We have seen this
happen to firms in the shipping sector in recent
years and, post-9/11, to North American airlines.
It wouldn’t take much for it to happen again.
Another issue for asset-heavy industries is
there is usually a time lag between ordering
the assets and receiving them. During the
boom times everyone rushes to order them but
they are delivered later, creating overcapacity
right when the downward part of the cycle hits.
17
Asset-heavy industries use their numerous
assets to produce goods or services and
generate cash flow. Traditionally, the
companies involved financed themselves
through bank loans, which underpinned growth
in the relevant sectors.
Post-financial crisis, banks have gone through
a fundamental shift in their risk appetite and
faced increased, regulator-led capital
requirements through the likes of Basel III. The
crisis also caused the value of companies’
assets to tumble which made lending to them
less attractive and led to margin calls and
breaches of covenants. Firms operating in the
asset-heavy world suddenly found themselves
facing a lack of capital.
A number of other, private sources of capital
have stepped forward to fill the funding gap.
They were always there in the background, but
have now come to the fore.
One such source is private equity. We calculate
there have been over 50 private equity deals in
the global shipping industry, for example, from
2008 to 2013, amounting to about USD15 billion.
The number of deals closed isn’t particularly
high yet but it is growing fast. Private equity
firms like asset-heavy industries because they
can raise debt against underlying assets in
addition to their equity to amplify returns. They
can also use the asset cycles to seek
predictable and attractive entry points.
Companies need to be mindful that a private
equity firm is looking to get the best return for
its investors, usually over a five-to-seven year
period. Businesses need to weigh up what
these firms are offering against what it’s going
to cost them to partner with private equity.
Another pool of capital companies are
considering involves export credit agencies,
such as the Export Credits Guarantee
Department (ECGD) in the UK and the
Compagnie Française d’Assurance pour le
Commerce Extérieur (COFACE) in France.
These organisations lend money and provide
guarantees to support exports from their
countries. They act as an intermediary between
national governments and exporters to issue
export financing which can take the form of
credits or credit insurance and guarantees.
They are particularly active in the airline
industry at the moment but are becoming
prominent in shipping.
18
Other alternative sources of capital include:
• hedge funds. Many hedge funds are
attracted to markets like shipping where, due
to substantial drops in asset values and
underlying freight rates, they can swoop in
and pick up assets at distressed values.
Unlike private equity, their timing can be
shorter and not necessarily oriented towards
the turnaround of the companies’ operations
• mezzanine funds. These funds don’t
necessarily want equity in the company, they
want a yield payback with downside
protection for deploying their capital. They sit
above equity but below senior debt in a
capital structure and so need appropriate
yield compensation
• sovereign wealth funds. SWFs – pools
of capital managed for national pension
schemes or a country’s reserves – are
also entering the fray. They tend to have
longer payback durations with yield or
equity-like investments
Companies need to be aware of these
alternative pools of money, understand how
they work and what their requirements are.
They might decide the best solution to their
needs involves a mix of several of them. Banks
still have a role to play, of course, because
they can advise on all this.
It can be difficult to make the switch to a new
funding source. A big reason why treasurers
at asset-heavy companies preferred to rely
on bank loans in the past is because they have
good relationships with their banks and, in
many cases, worked with the same person
for years.
By comparison, a private equity or hedge fund
player is new and unknown. They tend to focus
far more on the transaction than the relationship.
But by putting the work in to know the detail of
what they can offer and how it works, a
company is tapping into a useful source of
funding. You have to do the groundwork – one
of the worst things any business can do is enter
into a deal without fully understanding the
trade-offs involved.
With banks now unable to be as helpful as they
once were through the good and bad times,
diversifying your funding sources isn’t just a
good idea, it is absolutely necessary.
ECB will be forced to
launch QE
BY HARVINDER SIAN, HEAD OF EUROPEAN MACRO STRATEGY
Summary
German bunds test 1
per cent as ECB fails
to reflate economy
The European
Central Bank’s
(ECB) dithering has
increased the risk
of deflation in the
eurozone. Its timidity in the face
of weak growth and low inflation
merely postpones a full-scale
quantitative easing
(QE) programme.
I expect the bank’s policy error to boost safe
haven markets such as German bunds in the
short term, while periphery bonds will
become increasingly attractive as the ECB is
left with little option but to eventually
launch QE.
The ECB has reached the limits of traditional
monetary policy and its response to that has
been too cautious.
Its signal that policy rates can stay near zero for
a very long time is only sensible if you do not
believe in a business cycle. The global
economy is in its sixth year of expansion and
has had little impact in lifting Europe. It is highly
feasible that by the time the ECB needs to ease
again, policy rates will be too low to react
without quantitative easing.
The recovery in Europe already seems to be
stagnating. Italy is back in recession and
inflation has now fallen to just 0.4 per cent – less
than a quarter of the ECB’s target. Even the
central bank’s (often rose-tinted) forecasts
estimate prices will rise just 1.4 per cent in 2016.
By contrast the US economy bottomed out five
years ago.
Central bank’s latest
raft of extraordinary
measures ineffective
Japanification of euro
area should
eventually force ECB
to launch QE
Likelihood of QE not
reflected in peripheral
debt. Spreads
should tighten further
“ There is a real danger of a
‘Japanification’ of the euro area
economy and the yield curve.”
Failing to see signs of a more robust response
from the ECB, banks have curbed lending to
businesses and households and are likely to
continue doing so.
And it is not only a story of weakness in the
periphery; we are witnessing a troubling
slowdown in the core as well. In Germany
industrial production has fallen for three
straight months.
19
All this means rates should flatten further at the
long end of the yield curve as the absence of
any sprightly recovery keeps nominal interest
rates lower for longer. The central bank’s
inaction is reminiscent of Japan’s failure to
respond to persistent deflation risk in the 1990s.
There is a real danger of a ‘Japanification’ of the
euro area economy and the yield curve for core
eurozone bonds.
The trigger point may well be a downside
inflation shock or a further hit to growth – but
the simple failure of inflation to pick up should
be enough to galvanise the governing council.
We are already seeing the negative
repercussions of low inflation on debt
metrics and we simply do not believe the
ECB will allow its inaction to contribute to
financial instability.
All year I have forecast lower yields and so far
I’ve been vindicated. Ten-year bunds have
descended to their lowest level since the 15th
century.
Holding peripheral debt, as well as instruments
that take advantage of tightening spreads
between peripheral debt and bunds, is the best
strategy in these circumstances.
German bonds are symbolic of the ECB’s errors
and suggest that the response so far – a
package of extraordinary measures announced
in June – doesn’t cut it.
We believe the probability of QE is not yet
reflected in peripheral yields. The spread on
the 10-year Italian BTP note, for example,
should tighten to around 100bps – 65bps lower
than its level in early August – and well below
that benchmark if QE is launched.
Under the plan, the ECB will charge eurozone
banks to park deposits at the central bank
overnight, and will allow a modest increase in
the money supply by no longer ‘sterilising’
government bond purchases.
The most eye-catching element is its targeted
longer-term refinancing operation (TLTRO) –
lending banks up to EUR400 billion of cheap
money this autumn in return for some pretty
easy lending commitments on the part of banks.
There is no point having targets if they are too
soft. The TLTRO appears to be an attempt to
avoid a full-scale programme of public and
private asset purchases, or at the very least
a way for the ECB’s governing council to buy
time and hope the economy miraculously
turns around.
The central bank’s plan to support lending to
SMEs by reviving the ABS market looks like
bluster. As ECB President Mario Draghi himself
said if a “broad asset programme” is necessary
it would require a significant element of
government bond buying; in other words,
more than the relatively modest securitisation
of private assets by the European
Investment Bank.
The reason for such a lacklustre response is
deadlock on the council between board
members from the core and periphery.
That will delay QE, probably until Q1 2015 at
the earliest.
20
The markets may be running ahead of the
fundamentals here: Spain, Italy and others are
still blighted by high unemployment, daunting
deficits and public debt that is still on the rise.
In other words, the economic situation, while
clearly not at the distressed levels seen in the
past few years, is still fragile. It is in this context
that the ECB has said it will act if QE is needed
to ward off deflation.
That has helped investors become more
comfortable in holding peripheral debt today
than in the recent past. The upswing in banks
from outside the periphery buying paper issued
by peripheral countries is testament to that
renewed confidence. There is an element of
yield grab here too. Ten-year bund yields look
pretty unappetising even if there is a little more
performance still to come – adding to the
periphery’s appeal.
In the near term investors should assume
inaction remains the ECB’s default position and
should temper their growth and inflation
expectations accordingly. I would rather own
periphery than core however, safe in the
knowledge that the inevitable consequence of
current policies will lead to the eventual launch
of a full QE programme.
August 2014
Ratings overhaul ramps up
BY STEFFEN KRAM, MANAGING DIRECTOR, RATINGS ADVISORY
AT RBS
Summary
European companies keen to tap the capital markets must keep pace
with an increasingly dynamic ratings environment.
An overhaul of how Credit Rating Agencies
(CRAs) operate across Europe
has intensified as regulators seek more
structure, transparency and diversity.
At the same time, CRAs have been
increasingly re-assessing rating criteria
across key asset classes.
“ On top of the record demand and
evolving regulation, the CRAs
themselves have been reassessing
their rating criteria across various
asset classes. ”
The authorities have been concerned about
over dependence on the key players and
want to incentivise greater CRA competition.
Recent regulation – CRA III – now requires
issuers subject to EU regulation and seeking at
least two credit ratings to also consider smaller
agencies – those with a market share of
no more than 10 per cent.
While Moody’s, Standard & Poor’s (S&P) and
Fitch still dominate the ratings landscape, a
number of new CRAs are emerging. Some of
them are part of larger organisations and often
focus on specific asset classes or countries. In
the European Union there are currently around
20 registered ‘challengers’ including DBRS,
Dagong Europe and Scope.
The changing regulatory environment is just one
of the factors issuers need to stay on top of to
be best prepared.
Certain CRAs have also said they will publicly
rate a wider range of debt securities issued by
rated entities, including for example loans,
regardless of whether the issuer requests it.
They are doing this to provide improved
transparency across an issuer’s capital
structure in response to the needs of a
changing investor landscape. All this change
comes as the demand for ratings rises fast.
The credit rating
landscape in Europe
has become
increasingly dynamic
Demand for
corporate ratings is
rising rapidly
The ratings
environment is likely
to be more
transparent and
potentially more
differentiated and
diverse in future
More and more corporates are looking to the
capital markets for funding as an alternative to
bank funding or the private placement market.
Many of those companies choose to be rated
when accessing the capital markets for the
first time.
21
This trend is one reason behind a record
breaking number of new published corporate
ratings across Europe, the Middle East and
Africa – looking at new ratings assigned by S&P,
Moody’s and Fitch, we count around 130 in 2013.
Of those newly rated corporate issuers, 25 per
cent chose to be rated by only one CRA in 2013,
according to our analysis, while about 60 per
cent chose both S&P and Moody’s. Around 25
per cent opted to include a rating from Fitch in
their rating agency line-up.
Non-investment grade entities have been a key
driver of this growth. This asset class accounted
for about 80 per cent of new ratings in 2013.
We’ve also seen far more ratings in the
so-called periphery countries like Spain, Italy
and Portugal – most likely a symptom of a more
constrained banking market as well as buoyant
investor demand. Last year around 20 per cent
of new ratings originated from these countries,
with Italy and Spain the largest contributors.
We also see an increasing trend towards ‘split
ratings’ where the same issuer is rated
differently by two or more CRAs. In 2013, about
50 per cent of new corporate ratings were ‘split
rated’, with around 10 per cent different by at
least two notches. The largest number of such
rating pairings occurred in the single-B
category which accounted for about 65 per cent
of all split-rated new issuers.
On top of the record demand and evolving
regulation, the CRAs themselves have been
reassessing their rating criteria across various
asset classes.
A notable example has been S&P’s recent
roll-out of its new corporate criteria. This met
with significant interest from the corporate
community, particularly in Europe, when S&P
consulted on their proposed criteria. The region
accounted for more than half of the feedback
received globally.
Other criteria refinements among CRAs have
included changes to the assessment of
shareholder loans and hybrid capital
instruments as well as links between
corporate ratings and their respective
sovereign jurisdictions.
22
The latter is particularly relevant for periphery
corporates or those with material operations in
lower-rated sovereign jurisdictions. Since the
onset of the financial crisis some European
sovereign ratings have dropped to levels where
potential country rating constraints have
become much more important to corporates.
We have also seen more links between the
rating criteria of different asset classes. For
example, corporate methodologies increasingly
‘borrow’ from sovereign and banking criteria
through country risk assessments.
This introduces a new degree of complexity
for issuers and investors and could change
corporate rating dynamics and migration
in future.
While in many cases criteria changes do not
lead to rating changes, it is important for
corporates to understand how the positioning
and flexibility of their existing ratings have been
affected and if the rating migration dynamics
have changed as a result.
Overall, we are seeing increased differences in
rating criteria between the major CRAs.
Corporate issuers need to be aware of these
differences when making capital structure,
issuance or rating agency choices, and
investors should be aware when making asset
allocation decisions.
While debates are likely to continue over these
developments, and there may be some
uncertainty around the impact, the overall
ratings environment is likely to be more
transparent and potentially more differentiated
and diverse in future.
What’s important now is that issuers and
investors understand the unprecedented
dynamism we are seeing in the ratings
landscape and navigate it appropriately.
CRA III – what issuers should be aware of
How recent European regulation on rating agencies affects corporates
• Definition of ratings, outlooks and related
information as ‘inside information’ under the
Market Abuse Directive
• Enshrined Civil Liability of CRAs to
investors and issuers focused (but nonexclusively) on intentional infringement of
regulation or gross negligence
• Definitive annual forward-looking
calendar for sovereign ratings review
• Restrictions on cross-shareholdings in
rating agencies
• Push to lessen use of ratings in financial
regulation, collateral definitions and
risk weightings
• Full calendar day’s notice to issuers pre-publication of rating action (amending
previous 12-hour rule)
• Mandatory rotation of rating agencies
every four years for certain structured
instruments (re-securitisations)
• Issuer obligation to consider smaller rating
agencies when more than one rating
contemplated for entity or issuance
Due for review in 2016
• Enshrined ability to comment on criteria
developments before they are finalised
• Competition
• Development of an ESMA (European
Securities and Markets Authority)
controlled central repository for all credit
ratings
• Issuer-pays business model
• Rating agency rotation for additional
asset classes
Why ratings matter
Six of the best reasons to get a rating
Wider access to capital markets
• Many institutional investors may not buy
debt securities that are unrated or only have
limited allocations for unrated issuances
More stable access to capital
• Helps debt issuers manage investor
perceptions of credit risk
• Helps maximise access to markets even at
times of stress and reduce risk during
business or economic downturns
However, some investors may need to sell
holdings in corporates that are downgraded
to non-investment grade from investment
grade (‘fallen angels’)
Counterparty risk
• Banks and financial institutions often use
ratings to support not only lending
decisions but also those relating to trade
finance, derivatives and foreign exchange
Support for growth
• Can help an issuer when entering new
markets and improve access to local
funding, suppliers and other counterparties
Enhanced management and understanding
of strategic options
• Can enhance management’s understanding
of their financial and strategic options
leading to better quality decision making on
capital structure
Management of borrowing costs
• By increasing the number of funding
options, the company is able to choose the
most efficient and cost-effective source of
funding at any given point in time
23
Considering getting rated?
Here are some of the things you should consider
Timing
• Allow enough time to prepare for the rating
process. Factor in the time needed to gather
all the relevant information, as well as the
CRA’s committee process
Resourcing
• Ensure colleagues across your organisation
are aware of the information requirements
and are ready to contribute in time
Understand the potential outcomes
• Assess potential outcomes based on the
relevant, published rating criteria, peer
group analysis and key rating factors for the
CRAs under consideration. Potentially
explore the impact of different capital
structure scenarios
24
Know the range of products CRAs offer
• You can then assess which ones are most
suitable for your requirements
Choice
• Companies need to decide which rating
agencies offer the greatest benefit for their
overall objectives
How the cloud will reshape
transaction banking
BY ALASTAIR BROWN, HEAD OF ECHANNELS, RBS GLOBAL
TRANSACTION SERVICES AND CARLO DE MEIJER, SENIOR
RESEARCHER, RBS INDUSTRY ENGAGEMENT
The European Commission (EC)
wants to bring down the barriers
to cloud computing in a move that
could revolutionise the way
transaction banks serve clients.
By providing near-unlimited hardware and
software resources on an off-the-peg, pay-asyou-go basis over the internet, cloud computing
drives down costs, enables innovation and
creates the flexibility to respond to change.
Traditionally banks were reluctant to embrace
such technologies, especially on security
grounds. There are other challenges too, such
as regulation and the potential complexity
involved in managing many different suppliers
spread all over the world.
But the past year has seen them taking a closer
look as they start to fully understand the
benefits it can bring and in response to growing
use of the cloud by clients. Most companies
believe it will play a central role in their future
strategies, according to a survey from IBM.
They are also demanding greater connectivity
with their banks, a process eased by the
cloud’s use of standard technologies.
The EC is also waking up to the possibilities.
“ There are few areas of transaction
banking it does not touch...But it is
not a technological Valhalla - there
are disadvantages too.”
differences across national boundaries. Its
vision is to create a secure environment in
which private and public sector organisations
can use, buy and sell cloud services.
All this momentum is building at a time when
banks’ IT budgets are under increasing
pressure, competition from non-bank payment
providers is much tougher and the need to
serve clients better is becoming more acute.
Cloud computing can help meet all these
challenges.
There are few areas of transaction banking it
does not touch from cash management, trade
and supply chain finance to payments, mobile
banking and business analytics.
Summary
Cloud computing is
set to revolutionise
how transaction
banks serve clients
It should lower costs,
boost innovation and
make it easier to
respond to change
But there are
disadvantages to
consider too
The key to competitive advantage will lie in the
know-how brought to bear on behalf of clients.
But it is not a technological Valhalla – there are
disadvantages too.
In a recent policy paper, the EC’s European
Cloud Partnership spelt out the need to tackle
issues around data, privacy, security and legal
25
Six big benefits of the cloud:
1. Cut costs: cloud computing means banks
will not have to invest heavily in dedicated
hardware, software and related manpower.
It is much easier for them to update their
IT infrastructure and the cloud’s modular,
pay-on-demand model means they
pay only for the hardware and software
they need.
The five main challenges:
1.Security and compliance: the main fear is
data being stolen or compromised and the
resulting impact on reputation. Banks need to
demand stringent safety measures from
suppliers and ensure new applications meet
the latest and most rigorous security
standards. Service Level Agreements (SLAs)
are a must.
2. Improve flexibility and scalability: the cloud
gives banks the ability to respond quickly to
changing market, customer and
technological needs. They can scale up and
scale down technology according to
requirement. The ability to respond quickly
will be an important competitive edge.
2.Reliability: another critical concern is system
failure or other disasters meaning
applications are not available. Banks need
to get stringent SLAs in place, complete
with guarantees, end-game scenarios
and remedies if a provider fails to meet
service levels.
3. Increase efficiency: banks will enjoy
improved efficiency ratios and operating
leverage. The standardisation inherent in the
cloud could make it easier to integrate new
technologies and applications in the future.
Because technology and business
operations can be much more closely
aligned, the cloud gives banks a golden
opportunity to drive out complexity.
3.Cloud management: achieving visibility and
measuring performance are harder to do,
especially if, as it seems likely, large banks
will source cloud services from several
providers and use them for both internal – or
private – and external, or public, services.
This could result in a bank having to handle
multiple security systems, and the need to
ensure all parts of their business can
communicate with each other and, where
necessary, with clients.
4. Serve clients faster: cloud computing makes
new and bundled products and services
easier to develop and launch, either on a
stand-alone basis or in partnership. It
eliminates procurement delays for hardware
and software. Banks will be able to boost
computing power to meet demand peaks
and provide the latest treasury solutions
without needing to worry about whether the
technology is up to date. Corporates will be
able to access bank systems using web
browsers from anywhere at anytime.
5. Forge stronger client relationships: the
combination of big data and potentially
unlimited computing power will allow banks
to develop systems capable of providing
better insight into clients and make better
decisions on their behalf. Services could
become more customised.
6. Bring clients closer to their clients:
transaction banking eases payments
between buyers and sellers. At the moment
the activities needed to process payments
are inherently inefficient because they use
different technology. But buyers and sellers
could be brought together on shared
applications in the cloud.
26
Increased use of various technology
infrastructures and a mix of different cloud
environments internally and externally mean
banks will need to develop fully-fledged
cloud management platforms. They will be a
necessity to ensure banks can fully realise
the cost savings and flexibility benefits of
cloud computing.
4. Interoperability: banks will need to ensure
data and applications can be moved across
cloud environments from a number of
providers. They should look to develop a
single interface and management layer that
can work across different platforms internally
and externally.
5.Regulation: the rules governing the cloud
vary from country to country. Many countries’
data protection laws impose constraints on
where data is kept, limiting take-up. This is
why the EC’s move to regulate the cloud
is welcome.
What is cloud computing?
Cloud computing lets people use the internet to tap into hardware, software and a range of
related services on demand from powerful computers usually based in remote locations.
Successfully enabling the widespread adoption of cloud computing could add EUR250 billion
to European GDP by 2020, thanks to greater innovation and productivity, according to
research conducted by International Data Corporation on behalf of the EC.
This would amount to more than 3.8 million new jobs, although this number does not include
jobs lost to cloud-related business reorganisations and productivity gains.
27
Break down the BPO barriers
BY RAY ZABARTE, PRODUCT HEAD, TRADE SERVICES,
GLOBAL TRANSACTION SERVICES AT RBS
Summary
The trade finance
industry must get
behind Bank Payment
Obligations (BPOs) to
ensure they succeed.
The adoption rate remains lower than initially
expected since the rules on BPOs were
published last year – although the number of
transactions using the tool is steadily increasing.
In a way, expectations may have been too
high. Barriers holding adoption back include
technology, legal, risk and compliance hurdles
and a lack of critical mass.
It is important these are overcome if BPOs are
to become a real option for corporates.
“ BPOs are making headway taking
trade finance into the future. They
just need the industry-wide backing
they deserve to truly take off.”
BPOs could play a vital role in the development
of global trade, according to the International
Chamber of Commerce (ICC) and financial
messaging giant SWIFT. They are a central part
28
of a wider trend towards automation leading to
greater efficiency.
Other services which remove paper from the
system, such as TradeCard and Prime Revenue,
have carved out successful and profitable
positions in niches of the market, but we are yet
to see an over-arching, market-changing tool
transforming international trade.
So far, nothing has really replaced old
fashioned, less efficient paper letters of credit.
BPOs come closer than anything else
though, and if we all get behind them
everyone will benefit.
By sharing data electronically, BPOs enable
faster, cheaper payments and better working
capital management. They can also be used
to cover the underlying risk or finance the
amount owed.
Banks are looking to make them more
accessible at a low cost of investment. They
are also giving clients the chance to try
before they buy. But while banks can educate
customers on the benefits and when to use
them, the onus remains with corporates to
decide when to adopt.
Bank Payment
Obligations could
play a vital role in
global trade, creating
greater automation
and efficiency
The entire trade
finance industry must
get behind them
Barriers include
technology, legal, risk
and compliance
issues, and a lack of
critical mass
And here is where the problems lie.
From a technology perspective, the investment
required can be expensive. The mechanics of
BPOs mean both corporates and banks have to
make a number of changes to their systems so
they can share information electronically.
BPOs are made possible through SWIFT’s
Trade Services Utility (TSU) – a system that
matches data from trade documents.
Currently, only banks can connect to the TSU
to enter or upload BPO data. However, since
it is actually the corporates that generate most
of that information, they have to figure out a
way to send this information to their banks
electronically and in the right format.
Corporates currently have three options to send
data to their banks, none of which are ideal.
They can:
• Generate files using the appropriate standard,
ISO 20022, through expensive middleware – but connectivity with the bank is still
an issue
• Send data in structured, non-ISO formats
such as Excel and let banks transform it – but
the technology that converts data from
non-ISO to ISO is not readily available; or
• Send via email, paper documents or fax –
which is inefficient and costly as it requires
banks to manually enter data into the TSU
Although there are some vendors providing
solutions in this space, it is still in its infancy
and easy-to-use, practical solutions are not
yet available.
The number of counterparty banks currently
using the TSU is limited too. If an exporter
wants a BPO, it is not enough to simply have the
importer agree to it – they have to ensure the
importer’s bank can access the TSU.
As BPOs are still relatively new, banks need to
work through the challenges involved in
preparing the appropriate client propositions
and legal documents, and understanding how
the Basel III rules relate to them. The lack of
precedent in the industry also means getting
the necessary approvals takes time.
These problems will remain until a critical mass
of TSU users is reached. It’s a little like having
email in its early days – you need your friends
and business partners to adopt it as well before
it becomes really useful.
So there is much to do, but it will be worth it.
BPOs are another trade instrument that
companies want – they bring benefits to both
buyers and sellers.
From the buyer’s perspective they offer the
opportunity to negotiate extended payment
terms. This is because the buyers, generally
large multinational companies with better credit
ratings than their suppliers, can use them to
leverage their lower cost of capital and provide
financing to the suppliers. In return, they may
ask for better payment terms or a reduction in
the cost of goods.
For the seller, BPOs mitigate the non-payment
risk because the bank takes on the risk instead
of the buyers. It also significantly reduces the
costs and time involved in examining and
transporting hard-copy documents as well as
resolving any discrepancies.
BPOs are making headway taking trade finance
into the future. They just need the industry-wide
backing they deserve to truly take off.
We must all embrace them.
29
Five things: transforming trade
transactions with MT798
There is a new way for companies
to communicate trade information
electronically with all their banks
from one central point.
Companies work with a range of banks to
execute their trade transactions, often using
several bank-based systems. But they can
now use the MT798 message type to
exchange information with all their banks
from one platform.
This has been made possible through the
Corporate Access Programme run by the
Society for Worldwide Interbank Financial
Telecommunication (SWIFT).
When transacting with other banks, over 10,000
financial organisations in 212 countries use
SWIFT’s standard trade messages. Banks
leading in this area are now extending the use
of MT798 to their corporate clients. Many
vendors have also adopted the standard,
making communication across all participants
easier and quicker.
Here are five things corporate treasurers
should know about MT798:
1) It enables you to send trade transaction
details through SWIFT with any software
developed for it, without the need for
multi-bank platforms
The standard allows companies to use a
common SWIFT message to transmit trade
information electronically to all their banks. The
MT798 is a “digital envelope” for MT7xx
messages – a range of message types used for
trade – to initiate import letters of credit,
standby letters of credit and guarantees, or to
receive export letters of credit.
It accelerates processes, tightens security,
reduces delays and provides one view of
transactions across multiple banks because
companies only have to use one platform.
It means smaller companies can stop using
faxes and couriers by accessing a user
30
interface – which involves making small
changes to their back office systems rather
than completely replacing them. Corporates
typically need a third party vendor application
to translate messages and SWIFT access to
initiate and receive MT798 messages.
Large and multi-national companies familiar
with multi-bank solutions should find it easier to
communicate with their trading partners.
2) It can be used with independent, multibank platforms or in-house solutions
Multi-bank platforms give companies one place
where they can manage all their trade finance
transactions and bank relationships
electronically – sharing letters of credit, bank
guarantees and other documents quickly and
easily while exchanging data in a
standardised format.
Communicating with banks directly through the
SWIFT network results in improved straightthrough processing and faster transaction
times. It also gives companies more
consolidated trade finance positions and
increased visibility over those positions, which
means greater security and improved risk and
compliance control.
3) At least 11 corporates and 27 banks have
adopted MT798 messaging already
According to SWIFT those companies include
Summary
The MT798 message
type means
companies can
exchange information
with all their banks
from one platform
At least 11
corporates and 27
banks have
adopted the
message type
already
exporters and importers. There are well over
1,600 corporates using SWIFT. The biggest
users are from the automotive, food, software,
computer services and industrial sectors.
4) …but it is in the early stages
Most businesses need to figure out how they
can adopt MT798. To make it work, companies
must initially make technical changes to ensure
electronic information can flow freely between
them and their banks.
This involves adapting the technology used
across the life of a trade – beyond the standard
internet-based systems – to more direct and
collaborative platforms that can bring it all
together and accommodate banks and
other stakeholders.
5) It supports FIN and FileAct messaging
Large documents for letters of credit, standby
letters of credit and guarantees can be
transferred electronically from corporates to
banks for the first time via FileAct. It is a
real efficiency boost and will
enhance communication.
Use of FIN messages allows for the exchange
of structured messages between buyers,
sellers and banks. FileAct facilitates the
exchange of electronic copies of documents
between banks and corporates. Document
types include Word, PDF, Excel or Image
formats. This benefits companies initiating
standby letters of credit and guarantees.
31
Six trends changing the face of
supply chain finance
BY CARLO DE MEIJER, SENIOR RESEARCHER, RBS INDUSTRY
ENGAGEMENT AND MENNO DE BRUIJN, GLOBAL HEAD OF SUPPLY
CHAIN FINANCE CHANNELS AT RBS
Supply chain finance
(SCF) is revolutionising
the way companies
buy and sell, but its
full potential has yet
to be realised.
The amount of cross-border SCF conducted
today is just a tenth of what could be done say
European banks. One reason is the complexity
of SCF. However innovations in both developed
and emerging economies promise to change
that modest uptake in the coming years.
Making SCF easier to use and understand is
essential if it is to become the norm in financing
global trade. Several trends should speed up
that process:
1. SCF is becoming widely accepted in cross
border trade
Bankers expect the European and US crossborder markets to grow 10-20 per cent a year
for the rest of this decade. Already some banks
have seen annual growth of 30-40 per cent and
in the UK and Germany that figure is closer to
70 per cent, according to Demica.
Companies are primarily using SCF for their
domestic supply chains at the moment, but
attitudes are changing. The Asset Based
Finance Association (ABFA) estimates the
European market is worth EUR460 billion (with
German trade accounting for half that figure).
That’s still small compared to total cross-border
trade of EUR4.5 trillion within the EU.
Mature industries with highly integrated supply
chains such as retailers, car manufacturers or
pharmaceuticals will lead the developed
markets’ charge for more cross-border SCF.
32
In the emerging world, demand for SCF will be
driven by suppliers’ need for more liquidity.
2. More buyers are financing their suppliers
SCF has traditionally focused more on the
relationship between suppliers and their banks.
This is changing. New technology is helping
buyers use SCF to help their strategic suppliers
at better rates than they might find elsewhere,
thanks to often higher credit ratings.
That represents a shift in the way buyers are
using SCF. Previously it was typically a tool
used to delay payments and keep money on
their balance sheets. In many cases this new
form of financing is provided by a syndicate of
banks given the risks inherent in a supply chain
that may contain thousands of firms.
SCF platform providers facilitate the process of
exchanging purchase orders, invoices,
payments and related documents and help
integrate this information between buyers,
sellers and financial institutions.
3. Non-bank players are emerging as an
alternative source of SCF
New entrants, including peer-to-peer lenders,
dynamic discounters and early payment
marketplaces help buyers and suppliers
exchange purchase orders, invoices and
accelerate cash transfers. Private investors,
financial institutions or even buyers provide
funding for these new solutions to invest in their
own payables.
The international banks dominating the sector
are reacting. That includes establishing
partnerships with some of these new players
and combining bank-funded SCF with buyerfunded solutions such as dynamic discounting,
where payment is made early in return for a
lower price. The arrival of these new players will
Summary
Cross-border supply
chain finance to grow
10-20 per cent a year
in US and Europe
New technology will
help buyers offer
suppliers better rates
More joined up
financing chain will
give exporters
smoother financing
Paperless solutions
to become the norm
not only increase the total spend on SCF but
also the scope of who uses it and when.
These non-bank players are having most impact
in offering SCF to small-and-medium sized
enterprises and challenging the banking
industry by helping those companies make the
most of their working capital.
The influx of new banks and businesses has
pushed prices down dramatically, but that
comes with risks. Cut-price financing may offer
companies a simple source of liquidity rather
than the structured one they need. If that trend
continues it could force providers out of the
market, leaving clients high and dry.
4. Providers unite to offer a global service
Fragmented banks are recognising the need to
partner logistics companies, local banks,
export credit agencies and other transaction
banks to offer corporates solutions across the
supply chain. That is a change from the more
fragmented approach until now.
Initiatives like the new bank payment obligation
(BPO) from financial messaging provider SWIFT
are providing an industry standard. Life will get
a lot simpler for exporting firms with the move
from a ‘three-corner’ model that only involved
the buyer’s bank, to the BPO ‘four-corner’
model that also includes the seller’s bank.
That should lift the volumes of SCF and move
importers and exporters away from traditional
paper-driven trade instruments like letters
of credit.
5. Technology is replacing the paperwork
Electronic documentation is playing an ever
greater role in international trade business as
corporates automate trade supply chains to
improve speed and efficiency. That means
corporates who use a number of banks require
them to deliver electronic solutions on a
common platform.
They are turning to providers such as Bolero
and Electronic Shipping Solutions which
connect multiple banks with multiple buyers
and suppliers.
Trade finance will become more and more
commoditised as these digital solutions
become the norm.
Corporates are increasingly recognising the
benefits of business-to-business integration
and e-invoicing. By helping their suppliers with
working capital challenges they can generate
cost-savings and process efficiencies.
Firms like KPMG are starting to provide
solutions. For example, its new SCF platform for
UK business, C2FO Market, will provide
much-needed non-bank working capital to
suppliers and help small firms stabilise their
supply chains by accelerating cash transfers
between buyers and suppliers.
6. Countries are getting involved
Governments around the globe are paying
more attention to SCF. The UK for instance has
initiated an SCF programme with some of
Britain’s leading companies and banks. In the
US, the Treasury’s Invoice Processing Platform
uses electronic invoicing to ensure that
suppliers are paid on time or even early. In
Europe meanwhile, the recently adopted
standards for e-invoicing in public procurement
as well as the EU’s Late Payments in
Commercial Transactions Regulation (2012),
may give SCF in Europe a further boost.
What is SCF?
As globalisation stretches supply chains, suppliers are waiting longer to get paid. The global
financial crisis has only increased their vulnerability to a liquidity crunch. And the pressure is
rising further as powerful buyers improve their own cash flow by delaying payments to
suppliers.
SCF is the finance industry’s answer. Banks fill the liquidity gap by buying suppliers’ invoices at
a discount, or by offering buyers some finance to fill their suppliers’ liquidity gap. That helps
buyers delay payment – helping their cash flow – and at
the same time allows suppliers to get their money earlier.
It is a win-win solution and the idea has been growing steadily across the US and Europe over
the past decade.
33
Find out what we think
rbs.com/insight
This communication has been prepared by The Royal Bank of Scotland N.V., The Royal Bank of Scotland plc
or an affiliated entity (‘RBS’). This material should be regarded as a marketing communication and has not
been prepared in accordance with the legal and regulatory requirements to promote the independence of
research and may have been produced in conjunction with the RBS trading desks that trade as principal in the
instruments mentioned herein. This commentary is therefore not independent from the proprietary interests of
RBS, which may conflict with your interests. Opinions expressed may differ from the opinions expressed by
other divisions of RBS including our investment research department. This material includes references to
securities and related derivatives that the firm’s trading desk may make a market in, and in which it is likely as
principal to have a long or short position at any time, including possibly a position that was accumulated on
the basis of this analysis material prior to its dissemination. Trading desks may also have or take positions
inconsistent with this material. This material may have been made available to other clients of RBS before it has
been made available to you and regulatory restrictions on RBS dealing in any financial instruments mentioned
at any time before is distributed to you do not apply. This document has been prepared for information
purposes only. This document has been prepared on the basis of publicly available information believed to be
reliable but no representation, warranty or assurance of any kind, express or implied, is made as to the
accuracy or completeness of the information contained herein and RBS and each of their respective affiliates
disclaim all liability for any use you or any other party may make of the contents of this document. This
document is current as of the indicated date and the contents of this document are subject to change without
notice. RBS does not accept any obligation to any recipient to update or correct any such information. Views
expressed herein are not intended to be and should not be viewed as advice or as a recommendation. RBS
makes no representation and gives no advice in respect of any tax, legal or accounting matters in any
applicable jurisdiction. You should make your own independent evaluation of the relevance and adequacy of
the information contained in this document and make such other investigations as you deem necessary,
including obtaining independent financial advice, before participating in any transaction in respect of the
securities referred to in this document. This document is not intended for distribution to, or use by any person
or entity in any jurisdiction or country where such distribution or use would be contrary to local law or
regulation. The information contained herein is proprietary to RBS and is being provided to selected recipients
and may not be given (in whole or in part) or otherwise distributed to any other third party without the prior
written consent of RBS. RBS and its respective affiliates, connected companies, employees or clients may
have an interest in financial instruments of the type described in this document and/or in related financial
instruments. Such interest may include dealing in, trading, holding or acting as market-makers in such
instruments and may include providing banking, credit and other financial services to any company or issuer
of securities or financial instruments referred to herein. This marketing communication is intended for
distribution only to major institutional investors as defined in Rule 15a-6(a)(2) of the U.S. Securities Act 1934
(excluding documents produced by our affiliates within the U.S.). Any U.S. recipient wanting further information
or to effect any transaction related to this trade idea must contact RBS Securities Inc., 600 Washington
Boulevard, Stamford, CT, USA. Telephone: +1 203 897 2700. In Singapore, this marketing communication is
intended for distribution only to institutional investors (as defined in Section 4A(1) of the Securities and Futures
Act (Cap. 289) of Singapore). In Hong Kong, this marketing communication is intended for distribution only to
Professional Investors (as defined in Schedule 1 of the Securities and Futures Ordinance of Hong Kong).
Issuers mentioned in any material may be investment banking clients of RBS Securities Inc. and RBS
Securities Inc. may have provided in the past, and may provide in the future, financing, advice, and
securitization and underwriting services to these clients in connection with which it has received or will receive
compensation. Accordingly, information included in or excluded from this material is not independent from the
proprietary interests of RBS Securities, Inc., which may conflict with your interests.
For further information relating to materials provided by RBS, please view our RBSMarketplace Terms and
Conditions: RBSM Terms and Conditions
The Royal Bank of Scotland plc. Registered in Scotland No. 90312. Registered Office: 36 St Andrew Square,
Edinburgh EH2 2YB. The Royal Bank of Scotland plc is authorised by the Prudential Regulation Authority and
regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The Royal Bank of
Scotland N.V., established in Amsterdam, The Netherlands. Registered with the Chamber of Commerce in The
Netherlands, No. 33002587. Authorised by De Nederlandsche Bank N.V. and regulated by the Authority for the
Financial Markets in The Netherlands.
The Royal Bank of Scotland plc is in certain jurisdictions an authorised agent of The Royal Bank of Scotland
N.V. and The Royal Bank of Scotland N.V. is in certain jurisdictions an authorised agent of The Royal Bank of
Scotland plc.
Copyright © 2014 The Royal Bank of Scotland plc. All rights reserved. This communication is for the use of
intended recipients only and the contents may not be reproduced, redistributed, or copied in whole or in part
for any purpose without The Royal Bank of Scotland plc’s prior express consent.
Copyright © 2014 RBS Securities Inc. All rights reserved. RBS Securities Inc. member FINRA (http://www.
finra.org) / SIPC (http://www.sipc.org), is a subsidiary of The Royal Bank of Scotland plc. RBS is the marketing
name for the securities business of RBS Securities Inc.
769-0917CIB | September 2014 | RBS44916