The tripling of Renminbi (RMB) trading volumes and the currency’s leap into the global top ten did not happen by accident1. Leading multinational corporations (MNCs) can clearly see the opportunities that RMB internationalization and deregulation bring and are taking advantage, so why not join them? Enhanced integration, centralization and risk reduction are available to organizations with the will to seize them.
As China’s internationalization of the RMB and its associated deregulation continue to advance, a variety of new opportunities for both MNCs and local corporations are emerging.
One recent example is the State Administration of Foreign Exchange’s (SAFE) April 2014 release of a Circular on supporting MNCs’ centralized foreign exchange management. The circular aims to further simplify MNCs’ trading and investment processes, supports MNCs’ centralized treasury management across domestic and overseas entities, and continues to explore capital account convertibility.
Whilst the new rules are only applicable to eligible MNCs, they allow corporations to convert foreign exchange (FX) freely for Foreign Direct Investments (FDI) and foreign debt funding. This gives corporations important, additional flexibility that will assist them in managing their FX exposure effectively.
Another example is the financial rules relating to the Shanghai Free-Trade Zone, which further encourage the broader usage of RMB pricing and payments in cross-border transactions in three ways:
The regulatory announcement mentioned above is just one example of how the internationalization and de-regulation of RMB is delivering practical benefits that corporate treasuries can leverage to maximize corporate efficiency, both within China and globally. These new emerging opportunities fall into three categories that reflect China’s historical ‘pain points’ for treasury:
Previously, China has been somewhat isolated by regulatory hurdles from corporations’ regional and global operations. While it has been possible to perform treasury management within the country, linking that to regional or global management has not been easy. However, de-regulation is gradually remedying this situation, so it is now possible to connect China with operations elsewhere in a variety of areas. Whilst some of these are as yet only fully connectible as part of pilot schemes (such as those operating in the Shanghai Free-Trade Zone) and have not yet been rolled out nationwide, they currently include areas such as liquidity management, netting and payables/receivables on behalf of.
A considerable number of Chinese treasury-related operations have formerly been decentralized in terms of management. This has often been due to significant physical documentation requirements, as in the case of cross-border flows. The net result was that many financial processes ended up having to be conducted on an entity by entity basis, resulting in appreciable duplication, non-standardization and additional costs.
However, as Chinese regulatory bodies continue to simplify or remove documentary requirements, companies have the opportunity to standardize and centralize their Chinese treasury operations. Ultimately, many activities that were replicated across multiple business units in China can now be standardized in accordance with any regional or global processes which a company may have established. They can then be run from a Shared Service Centre, either within China or elsewhere. Apart from economies of scale, standardization and centralization also serve to reduce the operational risks associated with individual business entities developing and running their own financial processes.
RMB internationalization and the reduction of regulation in China also give corporations the opportunity to minimize FX risks. In the past, cross-border flows with China were foreign currency-denominated, typically U.S. Dollars (USD). As a result, even though a domestic business would have RMB as its functional currency, any incoming USD investment had to be converted to RMB and vice versa for outgoing flows, such as dividends or trade payments. This resulted in FX risk exposure and associated costs that corporate treasuries had to handle. However, the internationalization of the RMB and the shrinking of associated regulatory hurdles mean that it is now possible to minimize FX exposures while also benefiting from increased currency mobility.
For example, a corporation might opt to include surplus onshore RMB in its global liquidity pool. Should it subsequently require RMB onshore (perhaps to fund a new onshore business unit or to make an acquisition), the funds can simply be remitted from the global liquidity pool back onshore. These two transactions would previously have incurred two FX dealing spreads (from RMB to USD and back again) plus administrative overheads. It will not take many such transactions under the new regime to accrue a very substantial saving over the previous regulatory requirements.
The various advances outlined above are clearly relevant for corporate treasuries looking to improve efficiency, while simultaneously reducing costs and risks. It is nevertheless important to highlight the point that de-regulation in China is still at a relatively early stage and that pilot schemes remain very much the norm. Some of the de-regulatory initiatives in these pilot schemes will eventually be rolled out nationwide, but others will not. Whilst the gradualist approach taken by the Chinese authorities means that opportunities are opening up for treasuries to adopt international standards, processes and solutions, there is still a need to be cautious.
Restrictions still exist, so there is not yet 100% free-flow across China’s borders. For instance, there are still some regulatory reporting requirements and cross-border flows remain subject to quotas, which require significant understanding and expertise to ensure compliance. Entry to pilot schemes is also not a given; eligibility is very much dependent upon a company having an excellent track record for regulatory compliance.
Good examples of the need to be aware of regulatory reporting requirements are Payment-on-behalf-of (POBO) and Receipt-on-behalf-of (ROBO) structures, and netting settlement. China entities are to some extent permitted to consolidate and net off flows from overseas, which can improve their funding efficiency and help centralize group FX management. Nevertheless, they must still take into consideration the following factors:
This nuanced situation highlights another crucial factor in maximizing the opportunities inherent in RMB internationalization and China de-regulation - the choice of a banking partner. The opportunities now arising in China are essentially about linking a corporation’s local, regional and global finances. Successfully achieving that requires a bank that can deliver local expertise and a deep understanding of local regulatory requirements (including the ability to secure approval for pilot scheme participation), in the context of global best treasury practice and solutions.
In addition, this expertise must be backed by a global banking platform and network that can facilitate China cross-border flows. This combination of end-to-end expertise, technology and network maximizes the China opportunity for the client (as well as the probability of an efficient solution implementation) irrespective of whether the client is a multinational or local corporation looking to go global.
This combination of capabilities was important enough anyway, but China’s ongoing RMB internationalization and deregulation further emphasizes it. For instance, the wider ability for corporations to move surplus RMB liquidity offshore makes their banking partners’ global liquidity management capabilities all the more important. By the same token, as China’s deregulation initiatives expand geographically, the locations of banking partners’ branches become increasingly significant. In particular, they need to extend beyond just major centers such as Beijing and Shanghai, to include fast growing industrial cities such as Suzhou and Shenzhen as well.
That RMB opportunities exists is not in dispute; the key is how best to maximize them. Integration, centralization and the reduction of FX risks are all valuable from a treasury perspective, but the extent to which they can be exploited depends upon a number of factors. Given that RMB internationalization and associated de-regulation are still very much ongoing and exploratory in nature, any strategy and associated solutions need to be sufficiently flexible.
Achieving this forward-looking flexibility depends heavily upon the quality of expertise and solutions a company’s banking partner can deliver. Banks with a combination of in-depth and local expertise, coupled with global reach and global capabilities, will have the necessary perspective to assist with the necessary planning. And only banks with the requisite solutions and technology will have the wherewithal to deliver thereon.
For more information, please contact:
Head of Product Management
Treasury Services, Greater China
1 Bank for International Settlements: “Triennial Central Bank Survey” September 2013