Corporate TreasuryTreasury Risk ManagementFinancial custodians have a duty to realise their own aggregate exposure

Financial custodians have a duty to realise their own aggregate exposure

The only way to mitigate credit risk is by identifying the aggregate exposure of the organisation, ideally in real-time, so that decisions can be made.

Aggregate credit exposure is possibly not the most enticing way to open any article, but the impact of mismanaging exposure is being felt far and wide at the moment following the collapse of Carillion, so it needs to be firmly at the top of any financial director’s agenda.

At the time of Carillion’s collapse in January, the Financial Times reported that, at the last count a year ago, Carillion calculated it owed £750m in trade payables and the same again to other trade creditors aside from banks and pensioners. One year on and that figure would have risen exponentially.

Companies are all too aware that they need to keep tabs on their trade credit risk. It’s essential that they know to what extent they are exposed if their debtors default.

Of course, it sounds straightforward, but how many organisations out there are actually on top of it and how many are using technology to get an accurate picture and ensure they can take action before the worst-case scenario happens?  Not enough, if estimates of the number of redundancies and business failures directly related to Carillion are to be believed.

The Daily Telegraph reported on the 14 April that banks, pension funds and tens of thousands of subcontractors owed money by the collapsed group are left with an uphill struggle to recoup money owed to them. It said a letter from the Official Receiver, detailing reports for the 27 UK-based Carillion Construction companies in liquidation, estimated that total liabilities stand at £6,905,532,000.

The only way to mitigate credit risk is by identifying the aggregate exposure of the organisation, ideally in real-time, so that decisions can be made. This doesn’t just relate to commercial businesses, it applies just as equally to export and credit agencies, government agencies, trade credit insurers, risk underwriters, banks and insurance surety companies.

All of these organisations are custodians of stakeholders’ money. They have a duty of care that requires them to know not just what the counterparty’s debt is, but the risk relating to the counterparty’s parent company, other parts of the counterparty’s group, the countries they operate in and the geopolitical pressures they face at any given time.

When it comes to technology, it’s no secret that the financial services sector is struggling with legacy systems. It is embracing digital transformation, but this takes time and investment, and in the short-term, for many finance organisations, there remains a reliance on systems that more often than not simply don’t talk to each other.

This miscommunication means that aggregate exposure can easily be miscalculated and certainly misunderstood.

Insurers and businesses cannot hope to make informed decisions about their level of exposure on a counterparty if they don’t have the full financial picture.

Take a bank for example. It might have one division that specialises in overdrafts, another that loans money for leases, or a third that focuses on invoice finance.

All three divisions are quite likely to incur exposure on the same counterparty, but if they’re not digitally connected to each other, they are likely to be unaware of the aggregate view, and they can’t possibly see the entire financial landscape in a timely manner.

The demise of Carillion is a wake-up call. Organisations should ask themselves if they understand the implications of aggregate exposure.

Do they have intelligence they can rely on to calculate their risk in relation to more than one sector, one division or one country. Can they pull the right information together quickly? It’s time to find ways to look back up the chain to ensure the full debt is safe.

The only way to do this is through software solutions that are fit-for-purpose and deliver timely intelligence when it’s needed across the entire counterparty eco-system.  Discovering their aggregate exposure when its’ too late will, at best, limit the action they can take to manage their risk, and at best, will have dire consequences for the future of the company.

It only takes a brief look at the bigger international situation to put one individual company into context. Debt is a huge issue.

A report in The Guardian last month highlighted a warning from the IMF, stating that the global economy is more deeply indebted than before the financial crisis and countries need to take immediate action to improve their finances before the next downturn.

This warning applies to all organisations, in all sectors too. The more agile that a company is in terms of its response to risk, the better able it will be to withstand the peaks and troughs of the market and the more prepared it will be to guard against bad debts.

There are multiple solutions available to help with the balancing of credit risk, and even for those organisations involved in the middle of digital transformation, there is no reason to delay change in this specific regard. Can any company really afford not to?

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