Keeping Pace with Rapid Growth in China: Opportunities for the Corporate Treasurer
Amid a backdrop of rapid economic growth, uncertainty and change, corporate treasurers in China seem poised to take their treasury operations to the next level. With many multinational companies (MNCs) increasingly looking to China and the rest of Asia as a source of growth and many local Chinese companies venturing outside of their domestic markets for the first time, the current environment presents a myriad of both opportunities and challenges. From tightened credit conditions and concerns about managing foreign exchange (FX) risk, to apprehension about government policy shifts and renminbi (RMB) internationalisation, corporations face a number of obstacles as they seek to structure their treasury operations and implement technology for improved management of cash and risk.
During the first half of 2011 interest rates in China were raised three times and at the same time bank reserve ratios reached a record high presenting considerable financing challenges to local companies. Banks are required by the China Banking Regulatory Commission (CBRC) to maintain a loan-to-deposit ratio of less than 75% but, with total bank deposits on a downward trend due to the negative real interest rate environment, the loan-to-deposit ratio of banks has been forced up, reducing the amount of credit available. The CBRC has been vigilant in enforcing the loan-to-deposit ratio limit. The requirement was strengthened this year when the CBRC began assessing banks’ ratios on a monthly rather than quarterly basis. The regulator even monitored banks’ ratios on a daily basis this past June.
While China did not experience a liquidity crisis as severe as that seen elsewhere in the world, local small to medium-sized companies (SMEs) and privately owned enterprises (POEs) have borne the brunt of the tightened credit situation and many have faced difficulties in obtaining finance as banks became more selective when it came to issuing credit. State-owned enterprises (SOEs) continued to have access to a multiple financing channels and banks were still keen to secure financing for them even amid tightened liquidity conditions. However, there is evidence to suggest that some SOEs have been impacted by reduced government spending, in particular in large infrastructure projects, as the government has pulled back funding and re-focused resourcing on the building of affordable housing.
The management of FX risk has rapidly increased in importance. For many treasurers, especially those from large SOEs, one of the largest challenges is that, while their investments are predominantly in US dollars and RMB, their revenues are in multiple currencies but the available avenues for hedging the ensuing FX risk are limited. This is the case for many SOEs who are expanding rapidly into overseas markets.
SOEs face strict compliance regulations and are reluctant to take any loss incurred from hedging. One of the major problems is that there is no specific policy to define what is good hedging. In China, hedging resulting in a profit is regarded as good whereas a loss incurred from hedging is bad. The regulators regard hedging as an act of financial investment, rather than a way to lock in cost and reduce risk. The State Owned Assets Supervision and Administration Commission (SASAC), the regulator of the SOEs, has a long way to go in determining a clear policy towards hedging.
Handling unexpected shifts in government policy is another major challenge for corporate treasurers. One of the latest policy changes by State Administration of Foreign Exchange (SAFE) with regards to the use of income for investment in China has not been made available publicly. It is almost impossible for corporations to foresee the changes and some of them are only valid for a short period of time or on a periodic basis. Many MNCs still see China as an attractive investment destination and, while the environment has improved, they still have to overcome the lack of co-ordination between the various regulatory bodies which have made it very difficult for corporations to adapt to the policy changes. They are often caught off-guard by policy changes and the fact that the government agency introducing the change does not always take into account how it will impact other agencies and regulations.
Interpretation of the regulatory environment is also often a challenge for corporations. While corporations are looking for unified treatment from the various agencies there are also regional variations to be dealt with which mean that even local banks are often not able to offer the same services across all regions of China.
These issues are not limited to MNCs; SOEs also face challenges as each industry will fall under the remit of a different agency. For example, the tax bureau may approve tax deductions for the import of equipment but the customs bureau may not approve the same deduction.
Feedback shows that the RMB still has a long way to go before being recognised as an international currency. Even in south-east Asia, the area most receptive to the RMB, interest is limited with very few examples of it being used as a trade currency. While companies who are expanding abroad would support further internationalisation of the RMB and greater use in trade settlement, they still have needs for foreign currency as many of their operational costs have a large foreign currency component.
According to a recent report by SWIFT, RMB payments volumes fell in October and November 2011, leaving the RMB at number 17 in the world ranking of payment currencies. “This is not a stellar performance for an emerging currency/economy, it might challenge some analysts’ predictions that the RMB will be a top three currency by 2015,” noted SWIFT.
Eighty-one percent of all RMB payments are still processed in Hong Kong. However, although volumes overall are down, increases have been seen in Taiwan, Russia, Indonesia and the Philippines.
Some companies prefer to settle imports in RMB in order to protect against FX loss during a period of appreciation in the RMB. However, for many multi national companies this is just viewed by headquarters as shifting the FX exposure from China to elsewhere in the organisation.
Many corporations in China, both SOEs and MNCs, have now reached a stage of development where they are evaluating how they should structure their treasury operations and what technology they should be implementing. Many companies have not yet implemented any form of centralised treasury and are challenged by what the local banks are able to provide for such a set-up.
For one SOE, they believe that centralisation is the way to go. After the financial crisis, there is a need to establish control. When the crisis hit, like many companies in other parts of the world, they found that they knew little about the risks that they faced across the globe. They are now in the process of setting up a global treasury platform, a key goal of which is to implement cash centralisation among its various banks in China with plans to extend this to overseas banking partners at a later date. In introducing treasury technology they are looking for a system that will give them firm control of cash within China, as well as visibility to cash across their global entities. Its treasury manager believes that efficient treasury management in China requires compliance with government regulations, bank support in IT and service and adjustment of business functions.
For one MNC, cash visibility is key. The company also believes that a neutral, third-party, i.e. non-bank system, is essential. The treasurer is looking to implement a common system across the Asia-Pacific region with the ability to feed in market data as well as to connect to their enterprise resource planning (ERP) system. While entities in different countries and parts of the region have different routines, different information and requirements, it is important to have a system that will integrate everything that people do across the region onto one common platform.
The SOE treasurer believes that, with the co-operation of the banks and government, cash visibility and controls within China are not so much of a challenge but that it is very different outside of China where different environments, regulations, etc need to be considered. They plan to regionalise cash management and to institute overseas cash management platforms in order to address this. In their view Asia, Europe and Latin America are hard to manage as no single bank or financial institution can offer the full coverage required.
Treasury managers in China are at the forefront of the growth of MNCs, whether they are local or foreign-owned. With many companies now looking more and more to Asia, and in particular China, as the engine of growth over the next few years, treasurers need to improve both their organisational structures and systems to enable them to improve productivity and efficiency, while at the same time giving them greater visibility over their business.
China’s treasurers clearly understand the challenges ahead of them and what needs to be done to enable them to compete in international markets. They are as demanding as their peers elsewhere in the world when it comes to FX risk management or increasing returns on surplus cash and will be setting the standards high for the corporate treasury function as China continues its rapid pace of development.
This article is an excerpt from a roundtable held by SunGard in conjunction with EuroFinance.