by HSBC
Natural Resources and Utilities (NRU) is currently one of the most dynamic sectors for M&A globally, with most regions experiencing high deal levels. This has knock-on implications for NRU treasuries that need to be addressed both now and in the longer term. HSBC examines these implications and some potential treasury strategies to address them.
Treasury Present
How does M&A activity impact treasury?
M&A activity affects corporate treasury in multiple respects. In the general sense, it results in a palpable increase in workload. More specifically, it will involve handling a raft of bank relationship and bank account management changes, such as the opening/closing of potentially multiple accounts. One of the consequences of this is the need to change signatories and bank mandates in accordance with the new corporate leadership structure, possibly to an extremely tight timeline.
The overall liquidity position of the corporation may also change appreciably. Treasury may have to adapt rapidly to a shift from the corporation being cash-positive to cash-negative. Even if that is not the case, treasury may have to manage the orderly release of off-balance sheet liquidity from investment instruments with contractual notice periods in order to partially or completely fund the acquisition up front. Alternatively, if an acquisition is funded by external debt, there will be time pressure to release as much surplus liquidity as possible from the acquisition to pay down this debt and minimise interest costs. More generally, existing liquidity structures may need substantial adjustment to accommodate new markets and currencies, or the removal of those markets and currencies in the case of divestments.
On the technology front, treasury may find itself post-acquisition having to contend with legacy systems and/or multiple ERP systems (and versions thereof) plus their integration with existing technology. In the case of divestments, treasury technology may require cloning to enable the independent operation of the divestment.
The importance of treasury involvement in M&A
Apart from the immediate consequences for treasury of M&A activity, there are more general corporate reasons for involving treasury as early as possible when such activity is in prospect. One example is the need to ensure existing financial operations are not disrupted during the M&A activity, such as a divestment's ability to pay suppliers and operate normally from its first day post-divestment. By the same token, an acquisition will have legacy bank accounts and infrastructure, in which liquidity may remain trapped until treasury has full visibility and control.
Many treasuries have also started to assume a broader risk management role, beyond purely financial risk. Therefore, early treasury involvement will also improve treasury's ability to advise on operational risks before, during and after M&A activity.
NRU M&A: Global themes
The global M&A environment in which NRU treasuries must operate is highly active at present, with the decline in oil prices since early 2014 a major factor. One response to weaker oil prices has been for companies to streamline their operations wherever possible, such as through the sale of non-core assets and operations. In several cases, buyers of these assets are looking to use any acquisitions as also an opportunity to diversify and access new markets. Two examples of this would be Chinese NRU corporates investing in Europe and US NRU corporates buying Asian assets.
Certain subsectors within NRU have had to adapt to considerable financial changes. For instance, oil field services companies have seen a major fall-off in business due to low oil prices and thus reduced exploration/production activity, which has also resulted in an associated increase in their working capital requirements.
More generally, the global NRU environment has placed further liquidity performance pressure on treasuries as the ‘lower for longer’ outlook on oil prices has become more widely accepted. This is an area that treasuries will typically always seek to improve, but at present the pressure to do so is particularly acute. However, at the same time, cost-cutting is a major priority in the NRU sector so treasury teams are lean and are very likely to remain so: doing more with less is now the new normal.
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Natural Resources and Utilities M&A: Regional themes
In addition to the global themes outlined above there are also a variety of region-specific themes that have a bearing on regional M&A activity, as well as corporate treasury.
In Europe, the relative weakness of EUR versus USD makes inward investment in NRU assets attractive. Nevertheless, this has not as yet translated into greater M&A activity for a number of reasons, such as the gap in perceived valuations between buyers and sellers. Interestingly, although EUR has been relatively strong versus RMB, this has not depressed interest from Chinese buyers.
For US NRU corporates, strong USD obviously makes acquisitions more cost-effective, and some are treating this as an opportunity to diversify into Asia by acquiring assets there. Other trends include a focus largely on upstream deals (representing some 45% of all North American deals during H1 2016 [1]) and the acquisition of technology assets.
By contrast, NRU M&A activity in MENA has been largely intra-regional, with USD6.99bn of deals in Q1 2016 [2], although there has also been a trend of national oil companies acquiring assets in Asia. Much of the activity in MENA has originated in UAE: for instance, the government in Abu Dhabi saw three corporate consolidations in the past three months - two of them involving oil and gas. Kuwait has not been far behind UAE in terms of NRU M&A volume, while in Saudi Arabia the focus has been more upon reducing reliance on the oil and gas sector. More treasury-specific trends have been a drive for some NRU corporates in the region to enhance their treasury technology, which typically lags that seen outside MENA.
In Asia, Chinese national oil companies have made clear their continued interest in outbound investment, with the One Belt One Road initiative [3] being a case in point. Elsewhere, inward investment has seen a number of non-Asian MNCs seeking to diversify by acquiring smaller assets in Asia. From a non-Asian treasury viewpoint, the region remains challenging, with diverse regulations, currencies and business practices adding complexity to any on-boarding and integration of acquisitions.
Post-M&A treasury considerations
Once a merger or acquisition has closed, treasury will be faced with a number of challenges. One of the highest priorities is gaining visibility and control of bank accounts and relationships. If this can be achieved, then the operational risks associated with personnel movements are minimised.
In addition, treasury will then also be well-positioned to access any surplus cash within the acquisition. This is crucial when acquisitions are funded by capital markets or bridge financing as it enables debt to be paid down faster and interest costs minimised.
A further consideration for treasury is that a merger or acquisition often does not stop there. It is not uncommon for periods of M&A activity to be followed by periods of divestment. This is a further reason for treasury to be well-briefed on the detail of potential M&A activity. If a business unit within an acquisition is already identified as non-core for early disposal, treasury clearly does not want to waste scarce time and resources on incorporating it into liquidity structures.
Another potential issue for treasury post-M&A is unfamiliar geography. An acquisition or merger may involve new regions or countries where regulation, currencies, financial infrastructure and business practices are unfamiliar. Under these circumstances treasury will have to surmount a steep learning curve if potential problems or errors are to be averted.
Leveraging bank expertise
Unfamiliar geography is a classic example of where partnering with a suitably qualified cash management bank can prove invaluable. If the bank has a global network presence, it will be able to provide detailed information and solutions to accommodate local nuances. The challenges associated with understanding new markets and the rules associated with managing bank accounts and liquidity therein can thus be minimised.
At a strategic planning level, if engaged early, this type of bank can also add value to the process of developing objectives, such as any transformation/optimisation agenda. The same global network expertise can be equally valuable in project managing the integration of bank accounts.
Finally, if the bank concerned can also provide ERP and treasury management system expertise, then there is also the opportunity to maximise the planning and execution of automation in the project. In a cost-pressured environment, this can be a significant benefit.
Treasury Future
Digitisation
Looking to the future in the NRU treasury space, one theme that stands out is greater digitisation. This has the potential to transform M&A activity for the better, by compressing timelines, reducing costs and minimising labour-intensive paper processes. One obvious example of this is account management, which is usually a major activity post-M&A. At present, a lengthy manual process of on-boarding with new banking providers has to be undertaken. Digitisation of the platforms and processes involved in on-boarding, could go a long way towards remedying this. This could simply take the form of electronic submission of documentation or enhanced systems that can make more extensive use of information already held in order to minimise duplication of effort.
Know Your Customer (KYC) processes are another area that can prove a bottleneck post-M&A. Again digital technology and data management can be used to improve the experience from a corporate perspective. In addition, regulatory changes can be more effectively incorporated in modern technology platforms, ultimately simplifying and improving the on-boarding experience. Another recent innovation that can assist here is collaborative KYC, with KYC.com and the SWIFT KYC registry being two examples. This can help to automate the KYC processes, including the verification of companies, people and ID documents. A single centralised secure database that maintains KYC profiles is far more efficient than individually delivering documents to various banking partners.
Nevertheless, taking maximum advantage of this sort of innovation necessitates a willingness to change on the part of banks. Only those banks that are genuinely committed to innovation and change management will be in a position to deliver the sort of streamlined digital experience that can minimise corporate treasury's workload post-M&A. That in turn necessitates the elimination of legacy processes and technology and the efficient redeployment of existing data onto new technology.
Technology Integration
In addition to account management, another major area of treasury activity post-M&A tends to be systems integration. Especially when a larger corporate acquires a smaller business or business unit, the likelihood of both entities already running identical financial systems is low [4]. This means that some form of data exchange between the systems must be established as quickly as possible if treasury is to have the degree of financial visibility it needs for effective risk, cash and liquidity management. The snag here is that because treasury is still perceived in many corporations as a cost centre, it tends to be near the back of the queue when it comes to obtaining corporate IT resources, which in any case may have limited knowledge of legacy financial systems integration.
This is a task where having a banking partner that has both the necessary experience and expertise can be critical. For example, it will ideally have qualified ERP specialists deployed on the ground in individual countries, not just at a regional level. This ameliorates the risk of 'lost in translation' errors when conveying important technical and financial concepts.
At a more granular level, such a bank may also have already created a middleware adaptor that can translate across the required financial systems for a previous client implementation. Even if it hasn't, it should have the necessary skills in house to create such an adaptor. The value of this should not be underestimated; in some regions (MENA for instance) it is relatively commonplace for financial systems to be home grown, so the data format that requires translating may be proprietary. The manual workarounds that might be required without a suitable adaptor would be a severe impediment to effective post-M&A treasury integration.
Note
[4] Even where entities of similar size are involved, while they may be running the same basic technology - a SAP ERP system for example - they may well not be running the same version.
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Conclusion
The NRU sector has historically seen appreciable levels of M&A activity, but even by those standards current activity levels in most regions are high [5]. This would be challenging for corporate treasury at any time, but at present the situation is further exacerbated by cost-cutting pressures bearing down on treasury resources. As a result, NRU treasuries are increasingly looking to their banking partners for assistance in managing pre- and post-M&A planning and activities.
The difficulty is that few banks can offer the necessary combination of capabilities. This includes project management and technological skills, plus a suitable range of cash and liquidity management solutions, but these alone are insufficient. A growing NRU M&A trend is geographic diversification often into unfamiliar territory. Therefore, any suitable banking partner also needs to be able to deliver a global physical network to fully support this.
