An Award-Winning Project to Optimise Currency Risk Management

by Srikanth Dasari, Head of Treasury Front Office, Dow Corning Corporation 

The winner of the TMI Corporate Recognition Award for Risk Management, 2014, was Dow Corning Corporation, in recognition of the achievements that treasury has made in currency risk management. In this article, Srikanth Dasari, Head of Treasury Front Office at Dow Corning describes the project that treasury has undertaken, and some of the improvements that treasury has achieved as a result.

Managing foreign exchange risk is a significant priority for our treasury department, a predominantly centralised department of around 20 treasury professionals based in Midland, Michigan. Before our recent technology transformation project, limitations in our risk management processes and analytics severely constrained our ability to make strategic financial decisions. This led us to a comprehensive overhaul of each step in our transaction management and reporting process, resulting in a best-in-class solution with a high degree of straight-through processing (STP), standardised workflows, significantly improved use of resources and substantial cost savings.

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Business challenges

Our business has grown substantially over the years, and we now manage around USD15bn in notional amount and 2,000 transactions per year in currency trades. As a result, our previously manual, spreadsheet-based treasury processes no longer met our processing and analytical needs. Managing foreign currency risk is a particular priority for our business, with significant exposure to a large number of currencies. However, our processes and technology meant that managing daily treasury activities was time-consuming and inefficient, with too much time spent on repetitive processes, and too little dedicated to analysis. The lack of ‘real time’ information was hindering our decision-making: for example, while we closed our accounts on day two after period end, fully trustworthy and actionable hedge exposure information was not available for a further two days at times, exposing the business to additional market risk.

Although we already had a market-leading FX trading platform, it provided limited instrument coverage and only supported trades in deliverable currencies, whereas most of our currency exposures were in non-deliverable currencies. Consequently, we were executing over 1,000 transactions each year via email or phone, and trade details were then manually re-entered into our Microsoft Access-based records system, with manual deal approval and fax-based confirmation using long-form, manually signed letters. These details were then re-entered into our ERP to generate the relevant accounting entries.

In addition to the efficiency and possible control deficiencies inherent in these processes, the limitations in our technology infrastructure hampered our decision-making, and prevented us from taking a holistic approach to currency risk management. There was also a range of risk management capabilities that were impossible to create using spreadsheets. For example, while we needed to better understand the value at risk (VaR) for our entire basket of currencies taking into account natural diversification between currencies, we were only able to look at individual currency VaR. Similarly, while we tracked some metrics necessary for reporting and compliance, we lacked visibility into insightful and actionable information to assess our programme and counterparty performance. We entered mostly into forward contracts, without regard for more strategic hedging instruments, such as puts, calls, collars, basket options, etc.

Devising a solution

We recognised the need to implement an integrated treasury technology infrastructure that would enable us to automate and streamline our processes, with ‘one time’ transaction detail input that would then flow through to all other systems. By freeing up time from routine tasks, we could dedicate more resources to value-added activities and achieve more sophisticated, proactive risk management analysis. Finally, we needed to achieve a scalable solution that would enable us to handle an increasing range and volume of transactions without the need to increase resourcing, and allow us to comply with ongoing regulatory changes.

We took a structured, disciplined approach to researching, planning evaluating components that would comprise an integrated technology infrastructure to meet our current and future needs. Ultimately, our solution was made up of five key components, as follows:

• FiREapps – for exposure capture and analysis. We were particularly impressed by FiREapps’ specialist capabilities and expertise that would support our exposure management and analysis requirements.
• 360T – for electronic dealing. The solution offered a wider range of instruments than our existing online trading platform, including currency options. It also supported non-deliverable currencies, which make up a large proportion of our exposures. Although the system did not cover all of our requirements initially, we were attracted by the attitude and capabilities of the vendor, who understood our vision and were keen to work with us to supplement them.
• IT2 – for treasury transaction recording and processing. Although there were various treasury management systems that met our needs, the ‘look and feel’ of IT2 was appealing, such as the visual workflow definition and status screens, and treasury workbenches.
• Misys – for automated confirmation transmission and matching. Misys, the market leader in confirmation matching software, allowed us to replace disparate, fax-based confirmations with standard templates for each instrument that were ISDA-approved and could be matched with all of our banks.
• Bloomberg – for market information, revaluation and VaR calculations. Although we already had this solution in place, we were not fully leveraging its capabilities to support our risk management objectives.

IT2 formed the ‘hub’ of our treasury technology infrastructure which could be integrated with other internal and external systems such as our ERP.

Project delivery

We made the decision to implement each of the elements of our treasury technology infrastructure in parallel, rather than taking a sequential approach. Although this meant that the project was more complex and challenging, each element played a critical role in enabling us to achieve our objectives. We took a Lean Six Sigma (LSS) approach to project management. For example:

• ‘Define’: We constructed an (as-is) problem statement, including pain points, and a description of a successful project outcome (to-be process);
• ‘Measure’: We collected data on an ‘as-is’ basis, including processes and workflows;
• ‘Analyse: We analysed where most of our time was spent, what could be automated, and what processes/ capabilities were needed to accomplish our goals;
• ‘Improve’: We implemented each of the enhancements/ improvements we had identified;
• ‘Control’: Once implemented, we embedded the new processes into our policy, processes documentation to prevent legacy inefficiencies from re-emerging.

Outcomes and achievements

The project took around two years in total, which we completed in 2014. The outcomes have been dramatic, both in terms of the value that each component of our treasury technology infrastructure has delivered, and the wider benefits to our treasury. For example:

• FiREapps. We have reduced the gap between our period end close and our exposure calculation from two days to about an hour. As a result of having ‘real time’ data, we have calculated a reduction in FX losses of around USD750k per annum, an important step in reducing volatility and supporting profitability. We have also significantly reduced the time taken to extract exposures, identify natural offsets and calculate our risk position.
• 360T. We can now deal 100% of our transactions electronically, including both deliverable and non-deliverable currencies, with none now transacted via telephone or email, significantly improving efficiency and control. Furthermore, we have been able to introduce competitive dealing, which we were not able to achieve using manual methods, resulting in savings of USD250k each year through tighter spreads.
• IT2. We can now keep track of all transaction activity pre- and post-confirmation, with all accounting entries for deal execution and settlement generated automatically. As IT2 is integrated with 360T, Misys and SAP, transaction details committed in 360T flow through each of our systems. This avoids the need to re-enter information, with trade approvals implemented within IT2 rather than printing and manually approving transactions.
• Misys. Ninety-nine per cent of transactions are now confirmed and matched automatically, based on master confirmation agreements. This has been a major time-saving for our treasury team.
• As a result of all the elimination and reduction of manual work in currency risk management we have made an estimated saving of USD250k annually.
• Bloomberg. As we have more time to dedicate to risk analytics, we are now able to make better use of this solution, with a significant impact on our ability to manage currency risk effectively. For example, we are saving around USD1m each year by assessing the non-linearity in forward curves and optimising the use of strategic hedging instruments, particularly currency options. We have also saved USD2.75m annually by reviewing our basket VaR analytics more closely. This process revealed 70-80% natural diversification in both our tax and future cash flow hedging portfolios, enabling us to unwind these programmes.

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Success factors

A project of this scale and complexity inevitably brought challenges, but we addressed these through effective planning and transparent communication. For example, the project required significant IT resources internally, and vendor resources externally. We maintained a single project plan to which all parties contributed, and involved all the relevant internal and external stakeholders in our project meetings. Leveraging the LSS methodology was instrumental in creating a structured approach to documenting, delivering and measuring quantifiable project success. Although this approach required more work upfront, it enabled us to derive lasting benefits. We took a structured approach to value generation throughout. For example, ‘Value Stream Mapping’ involved mapping our entire currency risk management workflow and critically reviewed each step to determine where we truly added value. We then decided which processes were best suited for automation and which areas we should focus our specialist resources. Similarly, a return on (human) assets (ROA) approach meant that rather than simply looking at our return on investment in cash terms, we also focused on directing our resources towards activities that added the greatest value to the corporation.

Project implications

The value of the resource savings we have made cannot be quantified in financial terms alone. With a large number of processes now automated, we have freed up around 600 hours per year spent processing, checking and resolving routine issues, so we have the time and confidence to be a truly collaborative, trusted partner to the business as a whole. Our treasury technology environment, and currency risk management approach, are scalable, enabling us to focus on finding new ways to deliver value to the enterprise as the business grows. We are also in a strong position to meet current and future compliance obligations as regulations evolve, and maintain Dow Corning’s treasury at the forefront of risk management practice.

Acknowledgements

The project has been a highly collaborative effort across treasury, accounting, tax, legal and IT departments within Dow Corning, and our vendors who continue to support us. Proactive senior management support and vision from Dow Corning’s VP and Treasurer, Jan Hjalber has been instrumental in our success, together with the invaluable contributions of Lynn Hendrick, Treasury Specialist, and Senior Treasury Analyst, Nirav Mehta.