With the Receivables Finance International Convention (RFIX) now in its 17th year, flow reports on how three banks (including Deutsche Bank) have been managing client demand structures, capital allocation and risk management in receivables finance.
Kevin Day, CEO HPD Software (moderator)
James Binns, Managing Director, Head of Trade Finance & Working Capital for EMEA, Global Transaction Banking, Deutsche Bank
Mark D. O’Keefe, Managing Director, Global Head of Asset-Based Finance, Rabobank
Wayne Mills, Head of Receivables, ABL & Corporate Asset Finance, Global Corporates & Financial Institutions, Lloyds Bank
Demand for non- or limited recourse true sale solutions has been booming in a financial climate where some borrowers are unable to access traditional forms of lending.
This, along with the opportunities brought by new technology and evolving business models underpinned the conversations at BCR Publishing’s RFIX 2017. This article summarises a panel on the state of the industry that included Deutsche Bank’s Head of Trade Finance and Working Capital for EMEA expert, James Binns.
Client demand structures
Kevin Day: Receivables finance is a very wide topic, what flavours of receivables finance are being offered at the moment?
Wayne Mills: We are seeing a huge demand for non-recourse/limited recourse true sale solutions where clients are looking for balance sheet de-recognition. There is a huge focus in terms of improving free cash flow. The differentiation comes in delivery rather than product development. There is also a lot of demand from clients for different types of structures. In particular, we use credit insurance as a risk mitigant but we are just starting to look at some structures where standby letters of credit are used instead of credit insurance, so there is a merging of the traditional trade world and open account world.
Mark O’Keefe: We have put our receivables and payables business together because our clients’ needs have guided us to move in that direction with increasing demand for bespoke, integrated solutions. These days, clients are focused not only on their own financial situation but also on the access to finance for their suppliers as well as their obligors. So our clients are getting pressure on both sides. With supplier finance – one man’s payables is another man’s receivables, so we have to adapt to that reality all the time. We are more and more looking at structures where we may integrate supplier finance and receivable financing alongside one another. And then, let’s not forget about another big chunk of the whole value chain - inventory, and clients are asking for solutions there as well. Yes things are getting more complex, and we try to simplify as much as possible, but at the end of the day, we must all serve our clients with solutions.
In addition, we offer very simple discounting facilities on one end of the spectrum, and at the broad end of the spectrum we offer receivables securitisations where a transaction could be financing obligations coming from multiple countries and denominated in numerous currencies.
Kevin Day: How much do you factor in understanding customer demand into the product solutions you offer today?
James Binns: It’s absolutely essential – primarily it’s about understanding what the client’s objectives are, what their needs are, and what are the off balance sheet solutions. What are the KPIs they are trying to drive – such as free cash flow or DSO. Once you have understood those objectives it’s about doing a deep dive into the client’s portfolio, looking at the payables on the procurement side and the receivables portfolio on the sell side. Then work out what is the most efficient way of achieving that client’s objectives. If you are dealing with an investment grade multinational corporation client who wants to improve free cash flow there is limited point in taking a basket of receivables where the credit rating is lower than their own. It’s going to cost them a lot more and it’s probably going to be heavy in the sense that you need to on-board/analyse a load of different buyers. It will take time and the impact won’t be potentially as great. If you analyse that portfolio to see where there are concentrations of higher grade corporates you can achieve higher impact at a cheaper price and be more efficient. For me it is about getting into the detail and understanding the flows.
Capital treatment and risk management
Kevin Day: How do you manage the different capital treatments?
Wayne Mills: It’s a constant battle. We will take a conservative view as a start point. We will look at certain structures in a way where we try to support the client as best we can but not follow the herd. There is a commercial tension between finding a good solution for the client and its capital treatment. We have a responsibility to be careful and do our due diligence. There is a clear growth opportunity, but there is a real danger the market could overheat if we collectively don’t continue to take a prudent approach.
James Binns: One of the critical elements of capital allocation for receivables finance solutions is around the performance risk of the seller and dilution of risks. Different banks have different methodologies and types of structure that carry different levels of performance risk. Where you have an investment grade buyer and a sub-investment grade seller – if you have to start pricing in performance risk that can impact on capital and pricing. For me getting that complexity right is challenging. Receivables finance also involves foreign exchange and other elements of banking services and solutions. Winners of tomorrow are those that can price their capital and assess their risk most efficiently but at the same time bundle solutions across different products to maximise efficient use and return – on capital.
Kevin Day: There is still a lot of confusion in the market about standards and definitions isn’t there?
Wayne Mills: There is a problem, which is within our collective control, about tackling confusion. As soon as a risk or credit colleague has any misunderstanding, lack of clarity or doubt about the solution we are trying to deliver, we run into problems. We can help ourselves by having the education process and providing clarity about what we mean. We need to apply traditional trade principles of understanding the physical supply chain before we can understand an appropriate financial supply chain solution. Helpfully, the ICC have come out with a definition of supply chain finance, but it is 100 pages long. Which kind of makes the point!
Mark O’Keefe: There is a certain amount of simplification and standardisation that is desirable, but at the end of the day, the reality for companies that are highly credit worthy is that they get access to finance from multiple sources on very competitive terms. So solutions need to add value in order to compete with other forms of finance and often times end up being bespoke. In contrast, with lower rated counterparties such as SMEs you often have to start off with very simple structures. There is a perception in some banks that SMEs are not as sophisticated as larger counterparties but often one can find that their systems in place for tracking their receivables and the understanding thereof in SMEs can sometimes be just as or even more sophisticated than those in larger companies.
Kevin Day: We see a lot of receivables purchase programmes which have off balance sheet treatment. If regulation and accounting practice changes what happens to that market?
James Binns: I agree with you , there is inconsistency and for example in some cases you are starting to see reclassification of trade payables into financial debt where payment terms are longer than average market and supported by underlying banks. There is a grey area in terms of accounting treatment that is starting to emerge. The other element here is rating agency treatment. We are starting to see in some instances rating agencies adding back supplier finance programmes or large receivables discount programmes where they are aware of those being in existence. When that happens it can affect the credit rating.
Kevin Day: Is there more opportunity to provide more holistic solutions to companies? We have asset-based lending (big in the UK and US markets), inventory finance, but how do you see this all evolving?
Wayne Mills: We are trying to move away from products and understand the client need and what we are trying to solve for. Rather than having a preconception when talking to a client about receivables purchase, we actually go back to the understanding of how they are trading and what their objectives are. We can then structure appropriate solutions. It may be receivable purchase or supplier finance but the idea is to move away from a set idea of a suite of products. Let’s listen, let’s understand and see what we can deliver from within our capability which I believe is a more sensible approach.
Kevin Day: We have seen a lot of the larger banks working with fintechs, so from a banking perspective, why is this happening and what will this do to the fintech industry?
Mark O’Keefe: We have developed our own proprietary technology for most parts of our business, but we also partner with fintechs and other parties for existing deals where our clients request or in territories where we have not yet rolled out our own technology. We are also occasionally approached by customers who have engaged fintechs directly and use their platform for syndicating to an array of financial partners. The fintech world is here to stay, but I don’t think it spells the irrelevance of banks- far from it - because the relationship is front and centre with most clients. It can be a very complicated discussion and hard decision for some companies to move to receivables or supplier financing. Then there is the question of what data are you sharing and with whom. Some customers are only comfortable dealing with house banks, while some are comfortable dealing in the fintech world. We are happy to work with fintechs to help our clients. I do feel that the evolution of fintechs is good for the overall market thereby making it more efficient.
Question from the floor: I was reading the Federal Reserve papers on shadow banking and alternative finance. Do you see a trend of fintechs connecting traditional factoring for SMEs middle market and receivable financing/discounting, with the main money markets? Do you see that as an opportunity for the industry, where fintechs channel the traditional financing business into the investment banking arena?
Mark O’Keefe: With regard to money market fund participation in this sector, we know that the asset backed commercial paper market, which is largely composed of money market investors, shrunk dramatically since the credit crisis due to a variety of considerations, and I can see some potential parallels in the evolution of these markets to that. Could I see this segment of the market evolving with the involvement of money market funds? Perhaps to a very limited segment of the overall market. For such an event to be successful, I believe that you would need strong oversight by rating agencies and strong banks backstopping such obligations.
Kevin Day: Big ships take a long time to turn and when they do they turn with some force. So the question is whether the fintech world offers a channel to market for the banks?
Wayne Mills: For the banking industry there is so much economic and regulatory uncertainty just now, timing is not ideal to harness all this technological capability and the associated operational, financial and (arguably) reputational risks that come with it.
James Binns: I see fintechs combining both capital market funding with traditional bank funding. Where you have a supplier finance platform where large buyers are confirming their invoices they can be financed by banks or by capital market solutions – whatever is more efficient and cheaper and wherever there are the right levels of liquidity which may also vary as per different economic cycles. That is a good thing. Because confirmed payable and receivables programmes expand more and more, not every bank has credit limits in every country on all the different counterparties or even coverage in all those countries or coverage in those countries. A platform that can consolidate the banks and other liquidity sources can provide a much wider solution for larger clients. The quantum of some of the limits and credit facilities available if payables and receivable finance really does take off and grow exponentially is simply going to be too large for some of the banks, so you are going to need some of those alternative sources of funding.
RFIx 2017, the Receivables Finance Annual Convention from BCR Publishing, took place on 15-16 March 2017 at the Intercontinental Hotel in London, with more than 300 delegates in attendance.
Tell us about your interests and we’ll email you relevant news, insights and information as soon as they’re published
Managing Director, Head of Trade Finance & Working Capital for EMEA, Global Transaction Banking