Treasury & Risk's 7th Annual Alexander Hamilton Best Practices Summit — October 1 and 2, 2002
2002 — Credit Risk Management Winners: Gold—Ford Motor; Silver—Cisco Systems; Bronze—EDS
A LONG-RANGE RADAR FOR RISK
Ford Motor rides off with the gold
GOLD CREDIT RISK MANAGEMENT WINNER—It was the end of 2000, and Ford Motor Co. was in the throes of centralizing its treasury. The group had already consolidated the transaction, execution and analysis/oversight functions of its many, far-flung subsidiaries and departments under a single umbrella and counterparty risk management was the next area to be tackled.
The task would prove to be tough. The Dearborn, Mich.-based company’s counterparty risk exposures weren’t viewed on an aggregate basis; each legal entity reviewed its own exposures, which were looked at in the context of mark-to-market values with no consideration given to future potential changes in exposure. On top of that, the systems used to manage these risks were either fragmented or didn’t exist.
Ford treasury’s first step was to collect data from the units within Ford in order to get the lay of the land and begin standardizing the data. Just this initial phase took risk analyst Chichin Chang six months. From there, Chang and fellow risk analyst Vidya Krishnamachar were able to determine Ford’s company-wide exposure and the scope of counterparty risks to be included. They then set specific risk tolerances at both a company-wide level as well as with each individual counterparty.
RiskMetrics then was tapped to provide a Web-based tool that could calculate current and potential credit exposures at various levels, ranging from company-wide to various Ford entities to specific asset classes. After that, Ford’s treasury developed a governance policy that covered areas like exposure limits, monitoring and reporting strategies and risk mitigation steps.
The next challenge was to create and implement new policies to manage Ford’s risk exposures. All the finance teams—right up to the board of directors—got the drill on the benefits of the new process, and the proposed plan was ultimately approved at the end of 2001 to be implemented in the following year.
The result? Though the company never set quantitative benchmarks for the project, Ford can now get a complete picture of its counterparty risk exposure, which has enabled the company to get what it describes as “long-range radar for potential issues.” “Although our overall strategies haven’t changed,” says Krishnamachar, “we now have better tools that allow us to be more proactive in managing our risks.”
The next step to be achieved in the second half of the year: Develop a database that stores limits data, disallows allocations that violate pre-set rules and automatically logs allocation changes. Also, roll out a tool that will automatically compare counterparty risks and limits.
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SILVER CREDIT RISK MANAGEMENT WINNER—Cash has always been king at this telecommunications giant. So it is no surprise that the San Jose, Calif.-based company’s credit risk group long had been considering ways to use the Web to better manage its credit and collections performance. However, when the tech sector imploded, many of Cisco’s customers began to falter and global days sales outstanding (DSO) began trending upward to peak at 47 days in January 2001. That made developing a Web-based solution to manage credit risk take on even greater importance.
What the company built in-house was a series of global reporting tools that enhance cash management, including accounts receivable reports and cash collection updates; real-time summaries of collections and customer credit reports, including a monthly watch list of customers with potential credit or collection issues. Additionally, the information is available online to Cisco personnel globally.
With the Web reporting in place, Cisco set a goal of trimming its DSO number to 30 days. But because of aggressive accounts receivable aging and cash collections, the company was able to bring that number to 24 days within three quarters.
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BRONZE CREDIT RISK MANAGEMENT WINNER—As an information technology services provider, EDS has a rather unique business model. The Plano, Texas-based company manufactures no hardware but often is asked by its large customers to deliver services that depend on the use and maintenance of IT assets that EDS is then required to purchase. That has effectively made EDS a financier with significant long-term credit risk exposure, as it often takes years for EDS to recover what it spent on equipment for a client. What EDS needed was a way to provide its services to its customers, but without taking on credit risk that, one can argue, should have remained with the client.
EDS treasury considered a host of options, including traditional and synthetic leasing, receivable sales and pooling techniques, but none in their traditional forms met all of EDS’ criteria. The answer lay in creating an entirely new approach based on existing financial strategies and called the Customer Financing Transaction program. The most popular route is to have third-party investors buy the hardware needed for an EDS client and then lease the goods to EDS, which in turn subleases the hardware to its client as part of an IT contract.
The result is that EDS’ clients become the primary obligor, with the contract spelling out clearly that investors are taking on the credit risk of that client—which has enabled EDS to pass this savings on to clients.
—As seen in the October 2002 issue of Treasury & Risk magazine