Ali Albetkov describes the challenges of introducing a group treasury department into a newly centralised company and outlines some of the difficulties faced by a corporate treasurer in Russia.
Ali Albetkov
Head of Treasury
Magnezit Refractory Group (MRG) is the leading producer of formed refractory materials in Russia and the CIS countries. It is part of the ITF Group Russia, a holding company with headquarters in Moscow. MRG employs approximately 13,000 people in Russia and China. The group has two existing production sites in Russia and another one in China. It also has two sites in development – one in China and one in Russia, which is a joint venture with Intocast AG (Germany). Its annual revenues have increased from RUR6.9 billion in 2002 to RUR7.5 billion in 2004. MRG embarked on a five-year investment programme in 2004, with a target of doubling revenues by 2009.
How is the MRG treasury organised?
I would characterise the MRG treasury as being partially centralised. The production side of the business was founded in 1901 and the distribution and engineering facilities during the mid 1990s. Until 2003, all entities managed their own financial activities – each unit had its own treasury. In 2003, the shareholders decided to form a management company for the group in order to centralise a range of activities from marketing to financial management and accounting.
During this process, a treasury department was formed in the management company in 2003. It was designed to centralise cash and capital flow, to optimise cash management of the whole group, to set budget control over cash expenditures and, the key point, to present MRG as a consolidated group to financial institutions and insurance companies. At the moment, it covers the short-term investment, financing, risk management and bank relationship management. It also manages operational cash flow within the management company.
Business units also have treasury services within their structures. They support the group treasury and are responsible for the day-to-day management of operating cash flow, payments execution and settlements turnover. The group treasury is part of the group finance department and is staffed by four people, including two in corporate finance.
Within the company, I report to the CFO and I also act as deputy CFO on operational issues. The CFO monitors treasury by way of a daily verbal report as well as periodic (from daily to monthly) reports and forecasts available on the company intranet. A range of performance indicators are set including the limits of currency exchange loss, the net volume and balance of debt, the level of bank charges per transaction and the department’s operating costs.
Did you have to explain the treasurer’s role to management and subsidiaries?
This has been one of my key roles, and it is still continuing. When the shareholders appointed a treasurer, they focused on limited aspects of their concern. I have had to show them how I could contribute to other activities within the company.
It was also a big challenge to persuade the business units to transfer authority to the centre. Because the MRG headquarters are in Moscow and the business units are in Chelyabinsk region (Urals) and China, I used a combination of face-to-face meetings and executive decrees to persuade them to work with us. In fact, nothing makes people support us more than obvious signs of improvement.
What was the first thing you did when you were appointed?
The first step was to set the plan and reference points for the treasury department and to set out how we would relate with the business units and other departments within the management company. We then had to establish a reporting system (deciding what reports will be made, their content, frequency and the responsible employees) and to set a methodology for managing bank relationships.
How do you manage cash within the group?
The procedure for managing operating cash flows is set centrally and delegated to the business units. All settlements are executed in accordance with a payment calendar based on a unified cash flow report form for the whole group. This calendar is consolidated from all units on a daily basis, reflecting the current cash position, short-term (up to three days) and medium-term (up to a month) projections, including inter-company transfers. Once a liquidity gap has been identified, a financing decision is taken within group treasury.
Because the group is expanding rapidly, we are currently running large overdraft lines. Any collected cash is used to pay this down.
The main source of information is data from periodic treasury reports. When the group treasury was formed, the format of the reports and the reporting policy were negotiated with the finance teams within the business units. Group treasury checks the data once a week through the ERP system. There is a hidden inefficiency here, as some business units use their own reports to monitor and operate short-term planning and settlements, rather than the group treasury reports. However, we can also monitor cash flows using the banks’ client systems. Because we have concentrated our banking relationships, this is not complicated.
How do you collect cash throughout the group?
Because we have major steel plants of Russia and CIS among our customers, we have built up a proven working relationship with them over the last ten years. Therefore we rarely experience collection problems, although these contracts normally include a discount for early payment. However if we enter into a contract with an unproven customer, we usually require full prepayment from them.
What regulatory constraints do you face when managing cash?
There are several obstacles for corporate treasurers in Russian legislation. These include:
Cash pools are rarely available for Russian companies. According to central bank regulations, commercial banks have to treat affiliated business units as separate entities if they are separate legal entities. This means they cannot finance the lack of liquidity in one unit with the excess in another. This is because when a bank extends a credit line, it has to place a reserve with the central bank, increasing the cost of transaction. However several Russian branches of international banks do offer cash pool services for their international clients. There are significant limitations on cash transfers within a group of companies, which complicates the daily task of concentrating cash to the group treasury. There is a complex system of currency regulation over transactions between residents and non-residents and for settlements in local and foreign currencies. These have changed recently and are summarised in Federal law for foreign currency regulations and control and Instruction 117-I from the Central Bank of Russia. There are a number of other rules, including the requirement that residents sell a fixed portion of export revenue in the local FX market (10% of revenue since January 2005).
How do you manage bank relationships?
When I joined in 2003, we used about 30 different banks. As a result of a lack of a centralised bank relationship policy, cash flows were being trapped between the banks and the group entities, increasing costs for the shareholders.
I worked out a plan for change and development. We set up a bank selection process after which we appointed three main transaction banks. About three-quarters of the group cash turnover is centralised with one transaction bank – International Moscow Bank (owned by HVB Group, Nordea, BCEN-Eurobank and EBRD). We also frequently use Sberbank (the largest bank in Russia) and Commerzbank (Eurasija) facilities. Through this structure, we have been able to gain control over transactions with the group’s key customers and suppliers.
One problem is obtaining good service from Russian banks. In my experience, high service standards seem to be inversely proportional to the level of fees. However, we seem to have been successful in obtaining a golden mean from IMB.
At local level, the business units should consult with the group treasurer over the selection of a bank. However, they are responsible for handling the local relationships.
How do you arrange funding?
Our five year investment programme has been designed to fund the building of new production facilities, the renovation of existing machinery and investment in scientific development. This is partly in recognition from increased competition from China, US and Europe.
Until 2002, we felt we had a high proportion of equity to debt and that this was the main reason we could not expand quickly. From 2003 onwards, we have financed our investment programme with external debt and we now feel we have an optimal balance between debt and equity.
Although we have the experience of issuing an interestbearing bond in 2001, all financial institutions still consider us to be a private company. So, when looking to arrange new funding, we really only have three alternatives:
- To arrange credit lines in RUR.
- To arrange a syndicated credit facility through one of our banks and with the participation of a group of other banks.
- To issue new bond debt or credit-linked notes.
Due to market conditions, we believe it would be best to issue a new bond, denominated in RUR to hedge currency risk. The initial cost of issuing a bond will be lower than arranging either a credit-linked note issuance programme or a syndicated loan. At the moment, we are analysing the market and we will prepare our position for our underwriter and other advisors. We would hope to declare the issue of bond borrowing either in September/October this year or early in 2006.
What risks do you face and how do you manage them?
In Russia, it is hard to hedge currency risk. It is difficult to find a bank prepared to hedge a position for longer than six months and, even then, hedging a currency risk is expensive. This means we attempt to hedge positions ourselves by trying to borrow in the appropriate currency. At the moment, approximately 80% of our revenue is in RUR and the remainder in USD. We try to reflect that ratio when borrowing.
On interest rate risk, we have some long-term positions from our investment programme. The rates tend to be linked to either LIBOR or Euribor. Our short-term debt is fixed on the basis of the market rate provided by the shortterm Russian open capital market (definite rate is provided by bank dealer). In both cases, we try to ensure our external cost of capital is not greater than the cost of our internal working capital.
On credit risk, we do impose some counterparty limits on customers if they have failed to meet credit terms in the past. These will be determined by the volume of transactions. Factoring services have been available in Russia since 2003, but they tend to be focused on managing exports. Internally, we have found factoring to be expensive. We prefer to negotiate with banks to manage credit risk along the production chain.
How do you use technology?
The majority of our production and retail units have SAP. We have had the SAP consolidation rights within the managing company since 2003 and the IT department is working to develop the use of SAP in the business units. The weakness is that the SAP-generated reports relevant to treasury are currently being collected into spreadsheets in the group treasury.
I am looking to adopt a better treasury management system. The SAP representatives in Russia introduced us to the SAP Treasury Module. By using this module, integration of group treasury and the business units will be easier. However, there are some weaknesses in the SAP system, so we will also look at other treasury management systems before taking a final decision over which solution to adopt.
What are your main challenges over the next few months?
My most important task is to raise funds to support the business’s growth over the next five years. My next task will be to adopt either the SAP treasury module or a specialist treasury management system.
Finally, I will be setting up a control system over the funds raised through the investment programme. We need to make sure those funds are not diverted into general working capital, but rather used directly for investment.
