Working Capital Management: New Challenges and Opportunities
by Jiten Arora, Global Head, Sales, Managing Director, Transaction Banking, Standard Chartered
One of the many consequences of the global financial crisis was the realisation by many Western corporations that the stagnation of their domestic markets made emerging markets their most likely growth engine for the foreseeable future. As Jiten Arora, Global Head of Sales, Transaction Banking at Standard Chartered explains, the resulting shift is still ongoing - as are the associated challenges and opportunities for working capital management.
While the global financial crisis itself may be a receding memory, we still live with many of its consequences. For many corporations, a shift in emphasis from West to East has been a prominent example. While some may originally have seen this shift as an urgent response measure, there has since been a growing acceptance that this is a fundamental and long-term change that the crisis has served to accelerate and accentuate. Today, it is not uncommon to hear multinationals talking of targeting emerging markets for a significant contribution to their global bottom line. These intentions are already becoming a reality, as OECD corporates increasingly choose to locate their supplier, client and procurement/manufacturing bases in regions such as Asia.
Although corporations may now see this transition as more opportunity than crisis driven, the crisis taught/reinforced a number of key lessons. The importance of managing concentration and counterparty risk was probably one of the most important, which is clearly reflected in the way corporations are managing their expansion into new regions. The days of one global bank servicing all corporate needs are probably gone forever, as most corporations now prefer to work with banks regionally in Asia, in order to distribute the counterparty risks and achieve a measure of contingency.
This new approach has a direct link with another important corporate realisation: that given the right treasury framework, emerging markets such as Asia are no longer as challenging from a working capital management perspective as has traditionally been assumed. Historically, the prevalent concern that caused corporate hesitation was that markets in the region were perceived as both risky and fragmented. The application of regional risk management and liquidity structures were assumed to be unachievable because of issues around currency controls, diverse regulatory models, lack of SWIFT connectivity etc.
A number of factors have combined to drive the realisation that this is no longer the case. On the one hand, certain markets in Asia have realised the implicit opportunity for themselves of the financial crisis and so have started revising their regulatory stance to become more ‘multinational friendly’. On the other, multinationals have understood that there are a few banks that can provide a highly efficient regional alternative to the single global bank model. These banks obviously provide a risk diversification opportunity, but also offer niche expertise in regions such as Africa, Asia and the Middle East that facilitates the extension of a global treasury framework.
A major irony associated with the financial crisis is that as certain emerging markets have started to liberalise their regulatory position, the reverse is true in developed markets. One of the most obvious manifestations of this is Basel III. Previously many corporates assumed that this was an issue purely for banks, but now there is a rapidly growing appreciation of the knock on effects that will directly impact them.
From a corporate perspective, the main concerns regarding Basel III will be the reduced availability and higher cost of credit. This is likely to be particularly evident with longer term credit and variable facilities such as overdrafts. The severity of this will vary significantly from bank to bank, with more conservatively capitalised banks being less affected. In particular, those banks with a high proportion of trade assets on their balance sheets will be well positioned, due to the self liquidating nature of those assets and their direct link to client economic activity, which results in more favourable regulatory capital treatment. Nevertheless, the overall message remains that corporations looking to expand into new markets in pursuit of growth will be well advised to minimise their dependence upon bank funding by maximising their working capital efficiency to free up internal liquidity sources.
Treasury centres: new role
This point has already been taken on board by some corporations expanding into Africa, Asia and the Middle East, which is reflected in the changing way in which they are using treasury centres. OECD multinationals active in these regions have historically regarded treasury as primarily a utility service function. This is no longer the case, as these corporations begin to appreciate the potential benefits of treasury centres in areas such as cash management efficiency and the management of supply chain, country, currency and counterparty risks.
These activities are now being rolled into the remit of the treasury function and managed treasury centres that are becoming tightly integrated into the organisation’s strategy and thinking. As this happens - in addition to being concerned with efficiency, cost and economies of scale - treasurers are also participating in growth, risk and finance planning for new ventures and opportunities. Their working capital expertise is increasingly being tapped to help identify the most efficient way to fund these new business units in new markets.
Treasury centres: new opportunities
Rather conveniently, this change in role for treasurers and treasury centres has been accompanied by growing opportunities for more efficient liquidity management. Traditionally, a major issue for Western corporations regarding emerging markets has been the concept of trapped liquidity. However, this is becoming less and less of an issue for some emerging markets - with China being an obvious case in point. The various pilot schemes for permitting cross-border cash concentration currently being deployed by the People’s Bank of China and the State Administration for Foreign Exchange represent a major step change in this respect.
At present it seems likely that these pilots will ultimately evolve into more general measures that will potentially liberate substantial additional corporate liquidity to transform working capital efficiency and mobility. Furthermore, the Chinese authorities are keen to attract domestic and regional treasury centres to cities such as Shanghai. More specifically, if a corporation has (or is considering) the placement of a treasury centre in China, then this is regarded favourably in the light of any pilot scheme application they may make. Therefore, although Singapore and Hong Kong have for some time been popular locations for Asian treasury centres, they are now facing competition from both China as well as (on a smaller scale) from countries such as Thailand.