Recap of the SCF Forum and Awards event 2019

| 23-12-2019 | by treasuryXL |

On the 28th November 2019, treasuryXL attended the SCF forum Europe 2019 in Amsterdam – an annual event. Here is our review of the day.

So, what is Supply Chain Finance (SCF)?

It is a series of processes, both financial and technological, designed to improve business efficiency and reduce financing costs by providing bespoke short-term funding solutions for both buyers and sellers, with a view to improving and enhancing working capital and liquidity for both buyers and suppliers.

There are three parties involved – buyers, suppliers and financial providers. Traditionally, banks acted as the provider of funding but, with the advent of fintech other non-bank firms are also offering solutions.

The ultimate purpose of SCF is to improve the cashflows for both buyers and suppliers.

Participants included banks, fintech, academia, together with companies that use SCF solutions such as DFDS, Airbus and Jumbo supermarkets.

The forum started off outlining the major themes surrounding SCF that needed to be considered:

  • Data collection and analysis
  • Education
  • Financial Flows
  • Procurement
  • Logistics – the missing link
  • Inclusiveness
  • Sustainability

Time was given to highlighting the awareness needed to form a true collaboration with all participants – intra firm, inter firm as well as the supply chain itself. No one department can successfully implement SCF on their own – it requires the input from a wide range of departments.

Rabobank gave a talk about trade and its impact on poverty. Between 1900 and 1950 Europe and the USA moved ahead, economically, from the Far East and Africa. Since the financial crisis of 2008 the middle ground of Europe and the USA has been squeezed and whilst poverty has decreased worldwide, the levels of inequality between income and wealth had risen back to the levels of the 1920’s.

Whilst trade tariffs are on their way down, trade barriers have been rising.

Politically the near future is likely to bring about new confrontations on world trade:

  • USA – China
  • Brexit
  • Capital controls to counter tariffs
  • Restrictions on foreign ownership

DFDS – case study

DFDS are a Danish shipping and logistics company, focusing also on ferries and door-to-door solutions. From an environmental view they have big concerns about the impact of logistics on world climate. Their aim for the future is to be smarter, cheaper and to have less impact on the environment. On the logistics side they must be more cost efficient as they operate in a market with small margins and large competitors.

As data has grown exponentially, they have embarked on an extensive SCF programme that has seen their return on invested capital improve from 5% in 2012 to 19% in 2017.

Major challenges are still to be faced – especially because of Brexit as 45% of their business goes through the UK. Hauliers in the UK are especially worried. This sector of the industry is best suited to younger truck drivers (there is a 73% satisfaction rating amongst drivers between 18-24 year olds), but problems are evident in the lack of female drivers and an average age for drivers of 50 years old and rising all the time.

DFDS strives to help hauliers via SCF by paying early with discounts. This had led to both an improvement in working capital fo DFDS as well as hauliers – one was able to purchase 10 extra trucks by being paid early.

Jumbo – case study

Jumbo is the second largest supermarket chain in the Netherlands with a 21.6% market share. Their growth in turnover has been impressive – from EUR 120m in 1996 to EUR 8.5bn in 2019. There is a strong impetus to manage the needs of both the suppliers and the company. Whilst Jumbo has grown rapidly a lot of their small suppliers had trouble keeping pace especially with the terms and conditions that existed before the implementation of SCF solutions. As and when Jumbo grows, their suppliers need to follow and 80% of their suppliers are defined as SME (Small and Medium Enterprises).

Jumbo has implemented a variety of different solutions to meet the needs of their suppliers, such as reverse factoring, dynamic discounting etc. It was important for Jumbo that the suppliers got on board with the programme – they have more than 1000 small suppliers. There was a 63% pickup in the first few months.

Moodys – word of warning

One of the main instruments used in SCF is reverse factoring, which differs markedly from traditional factoring. Reverse factoring is initiated by the ordering party – the buyer. As they are normally the larger party to an agreement their credit standing is of a higher order than the supplier – hence their interest costs are lower than for the supplier. With reverse factoring suppliers get paid early and buyers can delay payment to the factor (financial counterparty). However, the liability rests with the buyer.

Whilst it is increasing in popularity as a source of financing it can lead to a weakening of liquidity. Rating agencies are grappling with the legal consequences and lack of disclosure of reverse factoring. Now there is no legal requirement to disclose how much reverse factoring is on the books. This can lead to an incorrect picture of the financial health of a company. Companies that embraced Reverse Factoring but eventually suffered as result include Carillion, Abengoa and Distribuidora International de Alimentacion.

Big Data and AI

With the advent of ever more computing power it has become possible to analyse increasing amounts of data. This will lead to big changes in SCF through the use of Artificial Intelligence such as:

  • Traditional SCF
  • Fintech solutions
  • AI powered SCF solutions
  • Blockchain and Internet of Things

However, whilst embracing technology solutions we must not lose sight of old axioms such as “garbage in is garbage out”. It will be necessary to truly understand the flow of data, the variables and the output. Modern history has plenty of examples of large sources of data and experts, leading to losses and mistakes as well as profits and rewards.

Conclusions

  • A truly collaborative arrangement both internally and externally
  • Greater understanding of the business drivers
  • Improved early payment for suppliers
  • Chance to delay payments for buyers
  • Mutual transfer of knowledge and requirements for both parties
  • Improved relationships
  • Need to onboard all relevant departments

The opening quote at the forum was “Bridging physical and financial supply chains”. The one area that I, personally, felt was missing was the impact on the circular economy. Whilst there was talk on sustainability and global climate, I wished to hear more about how to increase the effective use of assets – trucks going to clients full and then returning empty, etc.

Maybe that can be a “hot item” for next year’s forum.

 

 

 

Lionel Pavey

Cash Management and Treasury Specialist

 

Brexit – the impact on your business

| 02-05-2018 | Lionel Pavey |

 

As the negotiations between the EU and the UK get ever more complicated, there is a strong possibility that rather than a hard or soft Brexit there will be no agreement whatsoever. For businesses that either export to the UK or import from, this could have a fundamental impact on their survival. The Netherlands exports goods and services to the UK with a value in excess of EUR 40 billion per year; more than 200,000 jobs are directly linked with trade to the UK; Dutch capital investment in the UK is more than EUR 180 billion. We take a look at some of the key areas where business could be affected from the viewpoint of cashflows.

Foreign Exchange

It is not known how many Dutch companies actively employ a hedging policy. If GBP was to significantly get weaker, demand in the UK might fall or lead to more contracts having to be settled in GBP. However, at the same time, Dutch companies relying on components from the UK could see their suppliers having their profit margins squeezed – potentially leading to problems in maintaining and fulfilling existing contractual obligations. The biggest concern would involve increased currency volatility. If EUR/GBP does become more volatile, this could lead to clients in the UK shopping further afield to obtain the goods and services they require – leading to a drop in exports for the Netherlands. What are the alternatives available – banking in the UK; offsetting existing supply chains by changing components with UK firms etc?

Funding

At present, the UK receives EU funding and this can be the basis for investment decisions regardless of the location of the business. As this will stop when they leave, there will be an impact on companies that have a multiple presence in both countries. Changes in regulations will bring extra complexity, restrictions and possibly affect the profitability of existing business arrangements. The immediate loss of passporting rights for financial services should not be underestimated.

Supply Chain

All existing supply chains operate under the premise of the single market, with no internal quotas or tariffs. The initial affect will be seen by the imposition of trade barriers, caused by a new trade agreement. This does not just extend to trade tariffs, but also to the implementation of VAT (BTW) on B2B transactions. The dairy industry is one that could be hit especially hard. EU tariffs for non-EU countries are as high as 45 per cent on some dairy products.
Non trade barriers are also a threat – different technical standards, labelling, compliance, together with extended delays in the shipment process (as goods will need to be inspected) will add to both the cost and time of trade.

KYC

All parties will be affected – but do you know what the position is of your clients in the UK? What are their pain thresholds; are they seeking alternatives markets; are they looking for alternative suppliers; how resilient are their logistical chains to change; how will changes in law and regulations affect their operations?
There are a myriad of unanswered questions that need to be addressed – one on one – with every counterparty.

What to do

It is imperative that companies perform a Quick Scan as soon as possible to try and evaluate what their exposure is in the UK and what percentage that makes of all trade for a company. Having ascertained the exposure, it then becomes necessary to stress test the processes and try to model the results on the company by inputting new variables.

With less than 1 year to go, you will need to start very soon!!

Lionel Pavey

Lionel Pavey

Cash Management and Treasury Specialist

 

Data analysis – pros and cons

| 18-04-2018 | Lionel Pavey |

 

With the advent of computing and ever more powerful processing capabilities, we are living in a time where there is more and more data available within a company. Advocates of data mining speak of the advantages that can be obtained by analysing all the data and discovering trends within the data. But there is also the risk that we end up being swamped by the data overload – so much data, so little time. If we want to analyse all our data, what is it that we truly want to find? How can we interpret all the data and arrive at beneficial conclusions?


Treasurers and cash managers are long time users of data analysis – it is used to go from a macro level to a micro level for individual transactions. When designing a cash flow forecast it is essential to take the micro approach. There will always be peak days for outflows – wages are paid, normally, on 1 specific day of the month; on the last working day of the month there is large expenditure relating to taxes and social premiums. Additionally, if the company works with monthly subscriptions, there will be peak days for inflows as all the renewals take place. These “exceptional” items need to be input as hard data on the relevant working days to assist in presenting an accurate forecast.

Another application of data analysis is to interrogate the actual Days Sales and Days Purchasing Outstanding – DSOs and DPOs – that make up the cash conversion cycle. A lot of unnecessary working capital can be tied up in this process. Understanding the transactional characteristics of individual debtors and creditors can be very beneficial to freeing up working capital. Furthermore, it allows the company to review their relationships – is it worth maintaining certain contacts if they do not meet the agreed terms and conditions on their trade transactions.

It is also possible to conclude that certain clients could benefit from a more advantageous pricing policy. Rewarding those that comply leads to better relationships and the improvements in cash flow can help reduce external borrowing requirements.

When attempting to analyse data, it is imperative to first understand what you are looking for. Obvious metrics could be month on month sales or purchases, seasonal effects on turnover, new products, promotional offers etc. The act of analysing data, together with the awareness within the company that the data is being analysed, can lead to anomalies caused by people’s actions. Data input could be subject to a form of “window dressing” – entries are made before the end of the month and then corrected in the following month.

It is possible to conclude that there is a trend in the data – some people even look for these – that could lead to a false sense of conclusion. There is also the danger that 2 different streams of data are linked to each other because they show the same trends. When analysing data is it necessary to be open minded about the expected outcome. If people start analysing with a preconceived idea of what the outcome should be, human nature can intervene and the data is interpreted in a way that justifies the preconceived idea.

Data analysis is a technical discipline that can overlook the fundamentals. Before the CDO crisis of 2008, most banks agreed with the interpretation of the underlying data within the systems, without challenging the reality of the scenarios being presented. Even after the crisis started, the banks were unable to foresee the severe impact that it would have on the whole financial market. I have a curious leaning to analysing long term interest rates – I have collated data on Interest Rate Swaps since the inception of the Euro. Whilst I am able to spot long term trends, I have failed in ever calling the top or the bottom of the market.

When analysing data, it is imperative that the basic fundamentals of a company and its products is never forgotten, If sales are down, a more fundamental approach needs to be undertaken. Are our competitors cheaper, are their products better, is the economy in a downturn, are our products obsolete?

Analysis should always be undertaken, but the results must always be weighed up against the reality of the marketplace. It is too easy to draw conclusions – it gives the illusion that the analysis is good.

A lot of good things can come from data analysis, but it must not exclusively determine the actions that a company takes in its quest for growth and survival.

Lionel Pavey

Lionel Pavey

Cash Management and Treasury Specialist

 

Buy now, pay sooner – dynamic discounting

| 12-04-2018 | Lionel Pavey |

 

We live in a time of very low interest rates which translates to lower funding costs. However, at the same time, obtaining credit is becoming more difficult as banks are reluctant to lend in the ways that they did years ago. This is caused by the need for additional financial buffers to comply with all the regulatory issues that surround modern day banking. Credit is still available via other avenues – look at P2P lending for example. When all else fails, it is necessary to look at one’s own internal supply chain to see how financing can be facilitated. Here is a report on the practice of dynamic discounting.

Dynamic discounting

As a corporate is common to purchase goods and services on the basis of receiving an invoice and paying at a later date. It is normal to see invoices stating that payment must be made within 30 days of the invoice date – not the acceptance date. As an incentive to pay the invoice early many companies offer a discount – the classic example is called 2/10 net 30. Breaking down this code shows that a 2 per cent discount is offered on the face amount of the invoice if it is paid within 10 days of the invoice date, otherwise payment is expected within 30 days.

Whilst 2 per cent might not sound very tempting, we need to look at the mathematics that lie behind this:
On an invoice for EUR 1,000 this means a discount of EUR 20. If we decided not to use the discount and only pay after 30 days we would have held onto our EUR 1,000 for an extra 20 days – this being the difference between the early payment date and the standard payment date. At present, we might make 1 per cent interest per annum on our bank account. The interest earned on EUR 1,000 for 20 days at 1 per cent, would reward us with EUR 1.11 – or, put in other words – EUR 18.89 less than if we paid early.

Why offer a discount?

• The supplier wants to lower their banking costs and improve their ratings
• The supplier needs the money
• Banks are not willing to lend money to the supplier
• The supplier is worried about their level of exposure to credit risk and counterparty risk
• It gives a supplier a useful insight into the business practices of their clients – if they calculated the advantage of taking the discount and declined, could there be inherent problems with the financial health of the client

Also, generating your own internal supply chain finance operation lessens the reliance you have on external funding from banks or factoring agencies.

A more modern adaptation of this practice is the development of discounts that are truly dynamic and work on a sliding scale. The highest discount is given for the fastest payment, and then progressing down in stages till the original invoice settlement date. This gives buyers an opportunity to still receive a discount, but not being tied down to the original 10 day period.

Irrespective of the financial gains offered by discounting, a more important aspect is positive growth in the working relationship between supplier and client. By supporting each other the bonds of trust increase and can lead to new and better opportunities together.

If you are interested to know what the effect of these changes can be on a coupon payment and calculation, please contact us for more detailed information.

Lionel Pavey

 

Lionel Pavey

Cash Management and Treasury Specialist

 

Financing your international trade – documentary collections

| 04-04-2018 | Lionel Pavey |

 

Acquiring the right goods at the right price can eventually lead a company to overseas markets. International trade has certain barriers – buyers and sellers have never met and are reluctant to completely trust each other; drawing up documentation can be difficult and time consuming due to difference in law between 2 countries; agreement has to be made on the settlement currency; documentation that implies ownership needs to be sent, but the seller is hesitant to have these released to the buyer before payment has been made. This article looks at 1 of the 3 main financial instruments used in international trade – the documentary collection (DC).

What is the process?

1 – Buyer and seller agree terms and conditions for a trade to take place – the means of payment, the collecting bank (this is usually the house bank of the buyer), a detailed description of the set of documents that have to supplied.

2 – The seller (exporter) arranges for shipment of the goods to the buyer (importer) via a shipping agent and receives a transport document (usually a bill of lading) that is negotiable.

3 – The seller prepares the agreed documents into 1 package and presents these to his bank (the remitting bank). This will include the bill of lading, certificates of origin, inspection notices, a collection order stating the terms and conditions under which the bank can release the documents etc. and a draft.

4 – The remitting bank will send these documents to the collecting bank instructing the collecting bank to present the documents to the buyer and to collect the payment.

5 – The collecting bank will inspect the documents and the contract, ensuring that they are in compliance with the collection order.

6 – The collecting bank will contact the buyer stating that the documents are in order, or what discrepancies have been established; and inform the buyer about the terms and conditions of the collection order.

7 – The buyer will be shown the documents and asked to accept them. Acceptance is recognised by signing the draft. When the documents are accepted, and payment is made then the documents are handed over to the buyer.

8 – Release of the documents occurs in  2 ways – documents against payment is when payment is made at sight of the documents; and documents against acceptance is when payment is made at an agreed date in the future.

9 – The buyer takes possession of the documents allowing them to receive the goods from the warehouse or port where they are being stored.

10 – The collecting bank arranges to pay the remitting bank either immediately in the event of a sight bill, or at the agreed future date in the event of an acceptance bill.

11 – The remitting bank arranges to credit the account of the seller.

So it is a letter of credit?

No, a documentary collection is an alternative to a letter of credit. In a DC, the banks undertake no guarantee role – they merely advise, release documents and effect payments. If a buyer does not agree to the documents, they do not receive the goods, the banks do not effect payment and the seller is out of pocket. Therefore a DC is normally far cheaper than a LC.

Why use a DC?

Both buyer and seller know each other and are happy with their existing relationship.

The collections are for a one-off transaction – there is no open account between the parties.

The seller has faith in the economic and political characteristics of the importing country.

A LC is not acceptable to both parties.

Documentary collections are governed by the Uniform Rules for Collections as issued by the International Chamber of Commerce.

Lionel Pavey

 

Lionel Pavey

Cash Management and Treasury Specialist

 

Credit Default Swap: What is it – good or bad?

| 26-03-2018 | Lionel Pavey |

A decade ago it was one of the financial instruments that was identified as causing the financial crisis. It had been one of the most popular financial products before the crisis with the market turnover growing by more than 50 times over a period of 7 years. It started out as a simple financial instrument to aid bond holders in obtaining protection from the risk of default. So what is a Credit Default Swap (CDS) and where did it all go wrong?

The buyer of a CDS pays regular premiums to the seller of the CDS – expressed in basis points. These payments are normally quarterly in arrears and the total value of the payment is dependent on the nominal value of the contract. This nominal value relates to the par value of the underlying bonds – if you hold bonds with a par value of EUR 5 million and wanted to buy protection for the full amount, then the CDS contract would be for EUR 5 million.

The seller of a CDS would receive these regular payments and would only pay out if the bond issuer defaulted. At the time of a credit event (default), the CDS seller would assume ownership of the bonds and pay the CDS buyer their par value. It can be likened to comprehensive insurance that we buy for our cars – we pay an annual premium and the insurance company covers us for the costs of any damage to the vehicle in the event of an accident.

What is a credit event?

The definitions of a credit event are set out in the contract and defined by referencing terms agreed by the International Swaps and Derivatives Association (ISDA). The major credit events, in European contracts, are bankruptcy, failure to pay on its debt obligations, and restructuring.

A contract will contain standard terms and conditions –

  • effective start date
  • scheduled termination date
  • the agreed price
  • payment dates
  • the reference entity (normally a bond issuer)
  • the reference obligation (usually an unsubordinated bond)
  • substitute reference obligations (if the original was repaid earlier than the termination date of the contract)
  • calculation agent

As previously stated, when the CDS market started it was seen as a product to protect bond holders and, in the event of a default, the CDS buyer could deliver the agreed reference obligation and receive its par value. In 2005, the limitations of this system were first recognised; Delphi – a manufacturer of auto parts – defaulted. The par value of their outstanding bonds was USD 2 billion – the sum of CDS contracts was USD 20 billion. As original bonds had to be tendered to validate the contract, a run ensued on the bonds and, whilst defaulting, the bond price went up!

This led to the next phase – cash settlement. Here, in the event of default, the CDS seller paid to the CDS buyer the difference between the par value and the market price – facilitated by an auction process to determine the fair market value.

However, an unintended consequence was the discovery and creation of different trading strategies that had not be envisaged when the CDS was designed. Before the introduction of CDS contracts, if you were bearish on a company you would need to short-sell their bonds. This is a sensitive process as the short position needs to be covered via bond lending to maintain the settlement position. With CDS it now became possible to purchase protection on a specific entity at a relatively cheap price – the CDS premium. It was therefore possible to replicate a physical short position with a derivative position.

It also led to the creation of “synthetic” instruments – synthetic CDS’s and CDO’s (Collateralized Debt Obligations). The sum of actual tradeable financial instruments were limited by their issue – synthetic products allowed banks to create products to meet the demand from clients to gain exposure to entities. It was a this stage that the market truly grew – it was possible to replicate any exposure that the client desired. When the financial crisis hit, all the “over the counter” derivatives compounded the problems. No one knew what the potential exposure of their counterparties was. These counterparties could have easily sold CDS contracts that could have a potential exposure to the par value of the underlying reference entities of bonds, CDO’s etc.

Is there a future?

CDS are useful financial products – most of the trades now take place on exchanges. However, the genie is not yet back in the bottle. There are now lawsuits – initiated by hedge funds – claiming that defaults are now being prearranged (Hovnanian Enterprises Inc.). The main problem is still who holds the potential risk and for how much. The essence of the product is viable and the original demand is still there. But, as with many financial products, as soon as they become commoditised, market turnover far exceeds the actual underlying market.

Lionel Pavey

 

 

Lionel Pavey

Cash Management and Treasury Specialist

 

IPOs – how to bring your company to the market

| 13-03-2018 | Lionel Pavey |

In the last week, 3 Dutch companies have announced that they will be floating on the stock exchange via Initial Public Offerings (IPOs). Alfen – an energy storage company; B & S – a cosmetics wholesaler; and NIBC – fifth largest Dutch bank in terms of assets. In America, Dropbox and Spotify, among others, are looking to float. Future issues in the Netherlands are expected to include Leaseplan, Varo Energy and Ayden. It is a very busy start to the year for investment banks with plenty of activity in IPOs and mergers and acquisitions (M&A). Here is a summary of how an IPO works.

What is it?

An IPO is when a company offers its shares to the public, which are normally purchased by institutional investors as well as, though usually in smaller amounts, to retail investors – individuals. A company first needs to issue a prospectus to potential buyers – this is a financial document that discloses all relevant information and financial statements about the company, in order that investors can determine the value of the company. 2 critical issues need to be determined – the share price and the number of shares to be issued. Shares are underwritten by one or more banks – they undertake the risk of bringing the shares to market and placing them with buyers. They also carry the risk of having to hold shares if they do not get sold at the time of the IPO.

Why do it?

Companies that have grown eventually start looking for alternative ways of raising funds – either for expansion or investment. The normal routes include bank loans, private placements, or capital injections via new shareholders, along with going public. It allows them to raise equity, offer incentives to management and employees, as well as increasing the awareness and profile of the company. There are large pools of liquidity – specifically pension funds and investment funds – that are looking for attractive investment opportunities. A major consideration for selling shares as opposed to private placements and loan products is the fact that, normally, there is never a need to repay shareholders their capital. As a shareholder you gain access to the increase of the value in the shares as well as dividend payments, both of which reflect the growth of the company. A shareholder has a future claim on a share of a company.

What are the advantages?

A cheaper route to long term capital
Diversification of ownership
The potential ability to attract better management
Alternative source of funding for acquisitions
A simple metric to determine the value of a company – share price * amount of shares

What are the disadvantages?

Considerable paperwork – business information, statements of accounts
Major costs relating to legal, marketing and accounting work
Primary information about your company that is freely published – your competitors
Large amount of time and effort needed to prepare everything
Dilution of power to shareholders
Compliance to new reporting methods – everything must be delivered on time
The issue might not be a success

Considerations

As a public company, reporting has to take place within certain time frames. This could, therefore, entail considerable investment in updates to accounting and reporting software – and processes – to comply with the regulations. Additionally, whilst preparing for an IPO, the company must still be run and managed as before. All these extra steps are on top of the daily management. Time must be found to make presentations and answer question from accountants, lawyers, investment banks and regulators.

Going live

If all has gone according to plan, an IPO will be successful and the share price will rise. The company’s profile has been increased and business grows. However, there are new responsibilities to shareholders, management and employees. There is a lot more communication necessary.

Final point
In a normal IPO, a company offers a mix of existing shares and new shares into the offering. This allows existing shareholders to realise a profit on their previous investment whilst also offering the company new capital. For the 3 Dutch companies mentioned at the start, all 3 issues are, basically, secondary offerings – no new shares are being created.

Lionel Pavey

 

Lionel Pavey

Cash Management and Treasury Specialist

 

 

Interest payments – How to calculate the days

| 07-03-2018 | Lionel Pavey |

When entering into a financial transaction you need to be aware of the settlement dates. If you have a contract that states that you must pay on the 1st day of every month what do you do when that date is a non-working day? Furthermore, to be able to calculate the interest owed on a loan, you also need to know what the denominator is – the number of days in a year for the particular product and contract. When a payment cannot take place on a particular date – because it is not a recognised business day, you need to know the convention that the bank uses to adjust the payment date. Here is an overview of the most commonly used business day conventions (which determine how non-business days are handled) and calculation bases.

Business day conventions

Preceding – the first preceding day that is a business day
Following – the first following day that is a business day
Modified Following – the first following day that is a business day, unless the days falls in the next calendar month, in which case the date will be the first preceding day that is a business day

Furthermore reference will be made to the applicable currency calendar for determining non-working days. For EUR this would mean TARGET, for GBP this would mean London, for euro USD this would mean London and New York.

Calculation basis

Actual/360 (Money Market) – the coupon payment is calculated using the exact number of days in the period divided by 360. The start date is included in the calculation, but not the last day.

Actual/365 (Fixed) – the coupon payment is calculated using the exact number of days in the period divided by 365. The start date is included in the calculation, but not the last day

Actual/Actual (ISDA) – the coupon payment is calculated using the exact number of days, with the portion of days belonging in a non-leap year divided by 365 and the portion of days belonging in a leap year divided by 366. The start date is included in the calculation, but not the last day.

Actual/Actual (ISMA) – the coupon payment is calculated using the exact number of days divided by the length of the year, where the length of the year is equal to the number of days in the coupon period multiplied by the number of coupon periods in the year.

30/360 (Bond basis) – the coupon is calculated over 30 days for every full calendar month and the actual number of days for the remaining fraction of a month, divided by 360.

30/360E (Eurobond basis) – the coupon is calculated on the basis of a year of 360 days with 12 30-day months, unless the end date is the last day of February, which is not lengthened to a 30-day month.

Coupon calculation conventions

Adjusted – Interest is calculated on the effective payment date adjusted for the business day

Unadjusted – Interest is calculated on the theoretical payment date, regardless of the effective payment date.

If you are interested to know what the effect of these changes can be on a coupon payment and calculation, please contact us for more detailed information.

Lionel Pavey

 

Lionel Pavey

Cash Management and Treasury Specialist

 

Internal Fraud – or how not to cheat yourself

| 22-02-2018 | Lionel Pavey |

Most companies, regrettably, experience internal fraud. The financial value of the loss can be small or large – however the impact is the same. Internal investigations, procedural reviews, the time spent on detection, possible prosecution, together with the potential loss of reputation are significant factors above and beyond the monetary loss. Fraud can never be eliminated, but the threat can be minimised through proper procedures.

Fraud is normally caused by false representation, failure to disclose information and abuse of power and position. As fraud is performed by people and their actions, a first step to prevent fraud would be to look at the current working environment within a company. If a company is putting extra stress on employees – bigger targets, loss of overtime payments, reductions in secondary benefits, no pay rises nor promotions etc. whilst the directors receive bonuses– this can lead to employees becoming aggrieved  and seeking retribution. Furthermore, employing more temporary staff and external contractors, can distance the remaining employees and challenge their allegiance and loyalty.

Internal procedures

One of the least sexy components within a company is internal procedures. They need to be drafted, amended, agreed, published, implemented and reviewed on a rolling basis. Very few people enjoy writing these manuals, but they are essential to ensure that everyone is aware of the correct procedures that have to be followed to perform any tasks. Often there is talk of a “four eyes principle”. Personally, I have always believed in a “six eyes principle” as it requires more independent control and makes fraud less easy to perform. Most of the procedures are, of course, built  around common sense. Duties should be segregated – different departments have different roles to perform in ensuring the complete procedure is followed throughout the company. Even within a single department, attention should be paid to segregating duties.

An example would be the administrative function relating to a purchase. There are 4 distinct stages – procurement, arrival, warehousing and dispatch/shipment. If one member of staff was responsible for the relevant data input for all 4 stages, there is an increased risk that fraud could take place. This is not to say that work should be segregated that one employee only ever does one function – this could also lead to fraud either through disenchantment or over familiarity of the systems and procedures used at one specific point in the production chain.

External procedures

Certain departments within a company have contact with external sources – suppliers, clients, financial institutions. Anyone who has contact with an external counterparty can be swayed by opportunity if the controls are not in place. In respect of purchasers – what contact do they have with suppliers outside the office? Are they entertained – restaurants, sports events etc? How often do they have contact? In respect of sales – are they responsible for determining the sales price? How often do they see clients and spend money on them? The same also applies to treasurers, cash managers, risk managers etc.

The necessary checks and balances need to be put into place. A record of all contact with external parties needs to be kept, updated, verified and stored. Temptation can be caused by personal hardship, flattery or grievance at how the person is perceived to being treated by the company.

Standing up to the boss

As stated, a healthy company should have procedures and statutes in place. These need to be adhered to at all times – there can be no exceptions. However, a mechanism for escalation is often missing. Example – someone sends in an expense claim approved by their manager. The treasurer or controller might question the veracity of a particular entry. A proper mechanism to escalate the discrepancy needs to be firmly established. That a manager has signed off on the expense claim does not mean it is correct.

Even directors have to make sure that their claims are signed off by other members of staff. Being at the top does not mean that the procedures do not apply. Requests for a priority payment outside of the agreed procedure should always be questioned. If everyone has agreed to the standard procedures, then there can be no justification to make a payment outside of the normal procedure, just because it has been deemed a priority. If truly deemed necessary, then authorisation must be given not only by management and directors, but also by the legal department. If this occurs, then the existing procedure needs to be examined as to why the incident occurred and where the procedure broke down. This all has to be detailed in writing – fraud can happen at the highest level as well as low down with an organisation.

Static data

Every contact both inside and outside of the company should be recognised and recorded in a data system. Static data refers to all relevant data concerning an entity – full name, registered address, bank details, contact details etc. This data should be fed into all other systems, but data input should be restricted to a small number of employees. These employees should not have access to any of the systems that are used to input data relating to daily operations.

Another key area is in the cash management side – book keeping can be complex and differences not noted until the yearly audit. However, cash movements contain plentiful details – name of beneficiary, account numbers etc. This can be reconciled against the prevailing static data – are the bank account numbers the same?

Fraud can never be eradicated, but by being open, allowing questions to be asked, even performing unexpected checks on the system and its integrity, and creating an atmosphere where staff know that they can question without fear of reprisal, then at least everyone will know that the company is alert and vigilant.

That knowledge and awareness will make a potential fraud think twice.

 

IFRS 16 – a new lease of life

| 16-02-2018 | Lionel Pavey |

Leasing is a common method used in business to benefit from using an asset. The part owning the asset is called the lessor who agrees to allow the user – the lessee – to use the asset, in return for a rental fee. The lessee also has to agree to certain terms and conditions as to how the asset can be used and by whom. This arrangement allows a business to enjoy the benefits of an asset – normally property or equipment – without having to purchase the asset outright at inception. The contract can also offer flexibility to the lessee with regard to replacing an asset when it is determined to be outdated. On the 1st January 2019, new accounting standards will be implemented meaning that for a lessee all lease contracts will have to be displayed on the balance sheet – with exception of short dated leases (less than 12 months) and with a monetary value of less than USD 5000.

Impact

There will be no more off balance sheet constructions. The balance sheet of a company will grow, as all leases are included. This would lead to a growth in both assets and liabilities. Furthermore, there will be no distinction between an operating lease and a financial lease as happens now. Under the new regulations a lease contract will be split between the right of use of the asset and the service component costs (including interest expenses) that will now appear as an expense on the profit and loss statement. For businesses that have traditionally relied on lease contracts – aircraft, shipping, heavy industry – there will be a noticeable impact.

Consequences for lessee

This will lead to considerable changes in the standard financial ratios and metrics that a business uses – EBITDA, interest coverage ratio, net income, operating profit, earnings per share, return on equity etc. By placing all lease contracts on the balance sheet, a further effect could be felt on borrowing costs, bank covenant compliance and even credit ratings. There will also be more costs and work involved in complying and maintaining the regulations. It will lead to an increase in debt on the balance sheet. The changes could be so large that some businesses will reconsider if an asset should be leased or purchased outright. This could lead to major reviews and renegotiations of existing contracts.

Whilst this is a change that impacts on the accounting side of a business, the knock-on effects will be visible to a treasury department. It will be necessary to collaborate internally and project the impact on existing bank covenants, other lending facilities and the financial metrics that are used.

Lionel Pavey

 

Lionel Pavey

Cash Management and Treasury Specialist