In a rare opportunity to interview one of the best teams in the field, Treasury Today visits Andrew Longden and his treasury team at the Shell Centre in London. We discuss the team’s achievements and also the challenges a corporate giant faces in today’s world.
Royal Dutch Shell is one of the few multinational corporates that can call itself truly ‘global’. The energy giant operates in more than 80 countries around the world and employs some 90,000 people. Wherever you travel, the chances are you’ll come across the familiar yellow and red logo. But Shell is not only expanding geographical frontiers; it is also an industry leader in terms of treasury operations.
Since becoming Group Treasurer of Shell in late 2003, Andrew Longden has led a team of experts pushing the boundaries of what can be achieved in the realm of corporate treasury. “The journey over the last eight years has been one of increased standardisation in the business; increased use of technology; a focus on the use of primary banks; and an emphasis on greater professionalism in the team,” says Longden.
But it has not been an altogether easy ride. The energy industry is notorious for the operational risks that are involved. When talking to Shell executives, for example, it is not long before the ‘three hard truths’ enter the conversation. These are the uncomfortable facts of business life that form the basis of Shell’s long-term strategy. First, global energy demand is rising inexorably, driven in large part by population growth. Second, resource extraction and energy supply are becoming increasingly difficult as traditional reserves start to run dry. And third, environmental concerns have taken on a new prominence in recent decades. In other words, the era of easy oil, both for Shell and the consumer, is at an end.
The energy industry is undergoing a difficult period of transition. And it is a transition that Longden’s treasury has to navigate through. This is a difficult task given that the industry places heavy emphasis on long-term strategy. Energy projects can take as long as seven to ten years to complete. Matching the funding requirements of these tasks with short-term market considerations is a significant challenge for any treasurer. And with a corporate the size of Shell, the numbers involved are enormous. In 2011 revenue towered at $470.2 billion, with capital investment standing at $31.1 billion. It is not surprising, then, that Longden’s team has to contend with a four to five billion dollar shift in liquidity on a month-to-month basis. These are significant amounts of cash by any measure. For Shell’s treasury, the key concern at all times is the availability of capital rather than its cost.
“The primary obligation of the treasury is to fund the business,” says Longden. “In the case of Shell, the scale of the balance sheet is just so large. And the variables that we input into it, which are overwhelmingly oil and gas prices, dwarf everything else.”
Shell’s treasury is divided into two core parts. The first is Treasury Operations. Headed by Nick Wakefield, Vice President of Treasury Operations, it represents the bulk of Shell treasury, focusing on day-to-day funding and supporting the business. Different, but no less important, is that of Financial Markets. Capital market activities, credit rating agency interaction, and bond issuances all fall under the remit of its head, Cheryl Sunderland, Vice President of Financial Markets.
“The journey to centralisation is pretty much complete,” says Wakefield. “We have centralised all our liquidity and FX to three treasury centres. The main ones are located in Singapore and London, but we also have one situated in Rio de Janeiro that handles regulated markets such as Brazil as well as Argentina. All our treasury centres operate on standard processes and are under common management.” A tight network exists. Bar joint ventures, very little treasury activity occurs outside group treasury. The group’s cash is physically swept to the three treasury centres, on a daily basis, so as to net exposures and lay them off to the market.
Ahead of the pack
But a firm treasury structure counts for little unless it is used as a means to excel in other areas. Shell’s treasury operations have been leading the field in terms of innovative routes to market. In particular, the past 12 months have seen the deployment of a ‘next generation’ trading tool. Under Paul Downie, Head of Liquidity and FX, the energy company has experimented with algorithmic trading – or automated trading with the use of algorithms.
“The move has taken us to a whole new level in terms of FX risk management,” says Downie. “We are probably one of the few corporates doing algos – if not the only to have integrated algo dealing into our daily FX dealing strategies. Our team has managed to trial all the algos out there, selecting a core number of algos that actually work very well for us.” Underpinning the move towards algorithmic trading has been the availability of a large database and substantial MI capability.
A thorough analysis of all available data has been instrumental to the firm’s trialling of FX algo tools. And the results are promising. First restricted to the G10 currencies, the tool has now been rolled out further east encompassing currencies that include the Singapore dollar.
“Traditional users of algos, such as hedge funds, look at the tool differently to how a corporate would. We are not trying to make money; we are after best execution. We are trying to add value as a treasury. And that is something you can say across our treasury operations: we’re adding value.”
“We look at using algos differently,” adds Wakefield. “Traditional users of algos, such as hedge funds, look at the tool differently to how a corporate would. We are not trying to make money; we are after best execution. We are trying to add value as a treasury. And that is something you can say across our treasury operations: we’re adding value.”
The shift to algos is part of a broader shift in FX trading, where a dealer stops being somebody who just transacts. “Instead they become analysts,” says Wakefield. “They are trying to work out what is the best thing to do and in what circumstances and making sure the execution strategies are right.” The idea is having the ability to see which route to market makes the most sense, whether it is Currenex, algos or benchmark fixing.
But algo trading is not the only change to occur recently. In the past two years, Wakefield’s team has changed its cash forecasting methodology, switching from bottom-up forecasting to top-down. “Top-down is just as accurate, if not more so,” says Wakefield. “It is easier to have a dialogue with the business.” There is another reason for the move towards top-down forecasting however. It makes for a far better fit when it comes to Shell’s main currency model system with its banking counterparties.
Banking on counterparties
In its second year of implementation, Shell has switched to a dedicated cash management bank for each of its main currencies: sterling, USD and euro. Citibank is the company’s USD bank; while the Royal Bank of Scotland assumes responsibility for Shell’s euro and GBP transactions. Wakefield’s team argues that it has boosted the accuracy of cash flow forecasting. “It is important that the business knows its forecasting. If a business cannot forecast its cash, the business is not in control,” says Longden.
But the swing towards a main currency model is merely indicative of a wider trend across the Shell’s banking relationships. The energy major has consolidated the number of banks it deals with in a drive towards efficiency. Some 75% of all bank accounts are now centralised with six primary banks. “We offer a significant volume of business to our banking counterparties. But on the other hand, oil and gas isn’t always found in areas where banks are traditionally comfortable. And we do expect our bankers to recognise and support the business wherever we are. This could be in Russia, China or Nigeria,” says Longden.
“Shell faces an unusual situation however. As a cash-rich major corporate, it is significantly stronger than the bank group that supports it.”
Service Level Agreements underpin the business’s relationship with each bank, in effect establishing a common scorecard. “But it is not a simple supplier-customer relationship,” stresses Wakefield. “Rather it is a strategic partnership.” Both parties work together to ensure a transparent and reliable working relationship. This is strengthened by regular meetings on a monthly basis. Shell faces an unusual situation however.
As a cash-rich major corporate, it is significantly stronger than the bank group that supports it. And it is not the only one. The financial crisis, and consequent turmoil in the Eurozone, has dealt a serious blow to the health of the global financial system. Banks are deleveraging. And regulation, such as the 2010 Dodd-Frank Act in the United States, is clamping down on speculative activities.
Given that the key concern for Shell is the availability of capital, then, it is fortunate it is in a position to ‘disintermediate’, as Longden terms it. The business can raise its own finance.
This is where the second core of Shell’s treasury enters the picture. The company’s Financial Markets team focuses on accessing capital for the business. “Our job in the great sweep of things is to interact with the external financial markets,” says Sunderland. “So what that really means is to fund the group when it needs to be funded, and to ensure that at all times we have both the funds and also the financial flexibility available to secure that financing on the best economic terms and conditions.” Sunderland’s team maintains both registered U.S. shelf and MTN issuance programmes, allowing it to issue bonds in the United States and anywhere in Europe in addition to other jurisdictions.
“At the end of the day all companies, whether they are banks or corporates are in the business of competing for capital. It is as simple as that.”
But underpinning Shell’s interaction with the capital markets is the company’s relationship with its rating agencies. The oil and gas giant is one of the few corporates left standing with two AA ratings on its long-term debt from Standard & Poor’s and Moody’s. This puts Shell in a ‘rarefied category’ says Shell’s Head of Financial Markets. “At the end of the day all companies, whether they are banks or corporates are in the business of competing for capital. It is as simple as that,” says Sunderland. “And from a structural viewpoint, the credit rating agencies fulfil a crucial role. What they do is establish a framework which really should be a basis for comparability across companies and across different kinds of markets to help investors make decisions about that competition for capital.” Sunderland strives to maintain a regular and transparent relationship with both S&P and Moody’s. Equity concerns also fall under the remit of Financial Markets, touching on anything from dividends, stock option hedging to share buybacks.
An additional duty performed by Sunderland is to liaise with the regulators. With China a key frontier market, for example, clear dialogue with regulatory authorities has assumed a new importance. Sunderland’s team also lobbies where impending financial industry regulation may impact Shell’s activities and bottom line. Current topics under discussion include the proposed financial transactions tax as well as the OTC derivatives.
Relationship to the business
To focus too much on the immediate concerns of treasury would be to detract from the overall importance of Longden’s team in the wider framework of Shell’s business, however. “In my judgement, business treasury is the most critical area of treasury,” says Longden. “The control and framework process by which day-to-day treasury transactions are undertaken is a given. That is the bread and butter of what we do.”
“I expect to have a treasury team that is responsive to the requirements of the business. So, if we are involved in an M&A deal, or a disposal deal, or portfolio opportunity then treasury needs to be there.”
“The reality of eBAM is still a long way off. We did the first eBAM pilot with SWIFT, Citigroup, in 2009 to prove that it could be done. But we were very keen that SWIFT pushed it; because for us, we wanted an industry standard in line with our general strategy. That has been very slow coming.”
“But in the main that isn’t the area I want to spend my time on. The area I am most interested in is the interaction with the business,” adds Longden. Shell’s business treasury acts as a cog between group treasury and the energy giant’s commercial activities. It allows Shell’s cash flow to be allocated efficiently among its acquisitions and strategic projects. And given that energy reserves are at all times depleting, there is an immense amount of business development, such as organic growth and M&A deals to contend with.
“Shell’s business treasury acts as a cog between group treasury and the energy giant’s commercial activities. It allows Shell’s cash flow to be allocated efficiently among its acquisitions and strategic projects.”
“It is critical,” says Longden. “Because we have centralised treasury out of the business and into group treasury, the danger is that, if you are not careful, you create a management vacuum in the business.” Business treasurers fulfil a critical management role to ensure there is accountability for treasury issues in the business. Three months is a long time in the oil and gas sector. “I expect to have a treasury team that is responsive to the requirements of the business. So, if we are involved in an M&A deal, or a disposal deal, or portfolio opportunity then treasury needs to be there,” adds Longden.
“I think the number one priority has to be support the business,” agrees Wakefield. “It is predominantly driven by M&A and new business development.”
Leading by example
Shell has cultivated a reputation of leading the pack. Its treasury team has been fearless in taking advantage of new trends and developments. Algorithmic trading has been a case in point. But there have been moments when this experimentation does not always work out as planned. Shell, along with Citigroup and Speranza, was one of the first companies to pilot eBAM (electronic bank account management). But such initiatives only work if others across industries also partake in the technology. “Some of these things actually require the industry as a whole to move,” says Wakefield. “You can only push it so far.”
“The reality of eBAM is still a long way off. We did the first eBAM pilot with SWIFT, Citigroup, in 2009 to prove that it could be done. But we were very keen that SWIFT pushed it; because for us, we wanted an industry standard in line with our general strategy. That has been very slow coming,” continues Wakefield.
Shell has been actively working behind the scenes however. It is often forgotten that electronic component of eBAM relates to the message only. There still remain large quantities of paper to contend with. Real value can be gained by trying to get standard documentation in BAM, before considering eBAM. But for a corporate the size of Shell, it is still difficult to find a single bank with the ability to deliver standard documentation for a multinational on a global level. Wakefield’s team has made strenuous efforts to work with banking counterparties in getting around this difficulty by means of centralising bank account management within Shell.
Shell is a corporate in an enviable position. It is a truly global operation – one that is supported by a balance sheet in rude health. But its success has been hard won. For with size comes responsibility and challenges. Longden’s team is renowned in the treasury industry for its professionalism and innovation. Of course, some of these steps have been slow-burners, such as is the case with eBAM. Longden, however, keeps it in perspective. “Shell operates in most countries in the world. In that sense we are one of the few companies that can claim to be a truly global multinational.”
“We are probably one of the few corporates doing algos – if not the only to have integrated algo dealing into our daily FX dealing strategies. Our team has managed to trial all the algos out there, selecting a core number of algos that actually work very well for us.”
“Our job in the great sweep of things is to interact with the external financial markets, says Sunderland. So what that really means is to fund the group when it needs to be funded, and to ensure that at all times we have both the funds and also the financial flexibility available to secure that financing on the best economic terms and conditions.”