Project Finance with SAP Bank Analyzer.

Dear,

The main consequence of the new environment of Capital scarcity, which has emerged from 2008 Financial Crisis and the Great Recession that followed it, it's the necessity of managing scarce Capital efficiently.

A very interesting example of the challenges of the new environment is the financing of the construction of big infrastructures. Many big infrastructures construction are financed with the use of Project finance, which is the process of financing big infrastructures with equity or debt backed by the cash flows generated by the project.

The process is as it follows:

1) The project starts with an idea.

2) After the idea has been approved, a project plan is approved, and financial resources are committed for financing the plan.

3) The committed resources can be allocated as Equity, Debt backed by the cash flows generated by the project (Securitization of the project cash flows) or Loans collateralized by the project cash flows.

4) The project plan is executed and the expected cash flows become actual and they're used by the project managers for repaying to the investors.

The whole process can be managed with the Investment Management module of SAP ECC.

1) The initial idea can be model in SAP ECC with an Appropriation Request.

2) The project plan can be modeled in the Project Systems module of SAP ECC with Work Breakdown Structure elements or Orders. These WBS elements or Orders can be created from the Appropriation Request that represented the initial idea.

3) As capital is transferred in and out the Project Plan (expenses and profits), the capital movements can be represented as Business Transactions posted in the Project plan.

As the project has been financed with equity, securities backed by the project cash flows or Loans collateralized with the project cash-flows, the investors, debt holders and lenders require Fair Valuations of the project.

This is the first limitation of the Investment Management module of SAP ECC; Investment Management manages very well the valuations of the Project following “Nominal Accounting Principles”, but it does not translate accurately the Capital costs experienced by the project due to Risk related magnitudes, which impact the transformation of Expected cash flows in actual ones.

On the other hand, if we transfer the Business Transactions, Orders and  WBS elements, with their Expected Cash-Flows to Bank Anlayzer, the system will give us Fair Value calculations of the Project cash-flows, which is the basis to integrate the project value as Equity, Collateral of the Loans and Securitizied Debt.

When we plan the Expected Cash-Flows, ECC is capable of giving a Nominal Addition of the Expected Cash-Flows. But the value of future Cash-Flows is never the value of current ones, when we're estimating the value of an investment we have to include additional costs.

- Capital Costs.- Which are the statistical costs related to the potential losses the investor is facing as a consequence of the risk and uncertainty of the investment.

- Funding Costs.- They are the costs of having rented the funds, as they're not available for the investor till the investment pays-back.

The above costs can't be calculated by the Investments Management or Projects System of SAP ECC, but we can use the data provided by the Investments Management module, as a basis to determine the Capital and Funding Costs in Bank Analyzer.

When we plan the expected Costs and Profits of the project with the planning functionalities of SAP ECC, we're determining the expected Cash-Flows and the time when we expect them.

The project planner should also estimate the probability of the expected Cash-Flows become actual, and this will be the basis to determine the Spreads and Yield Curves for discounting the future Cash-Flows.

Once we've transferred the Business Transactions, WBS elements and Orders with their planned Cash-Flows (Financial Transactions) to Bank Analyzer, the Risk Engines of Bank Analyzer will determine the Fair Value of the Financial Transactions, including the related Capital and Funding Costs.

The Risk Engines of Bank Analyzer also require the Yield Curves associated to the investment, and we will determine them with the probability of the expected Cash-Flows becoming actual, that the Project Planner has estimated.

Finally, as the Project Fair-Value has been estimated, we'll have the basis to estimate the Financial performance of the Project, integrating it as the Underline of the correspondent Investment Vehicle.

Join the SAP Banking Group at: http://www.linkedin.com/e/gis/92860

Looking forward to read your opinions.

K. Regards,

Ferran.

Smart Accounting for Financial Instruments and the IFRA of Bank Analyzer.

Dear,
Release 9 of SAP Bank Analyzer comes with a new functionality called Smart Accounting for Financial Instruments, deeply related to the new concept of central GAAP.

For understanding the implications of the concept we have to look at the two sides of the Banking Processes.

- Operational Banking world or “world of the facts”.
- Analytical Banking world or “world of the opinions”.

Operational world is the world of our daily relationship with the Bank: disbursing a loan, paying a fee, being charged a commission, signing a contract, etc. At Operational world there is not much space for interpretation; if a client disburses 50 USD from his Credit Card, all the related magnitudes are very clear: amount, time, interest he will be charged, etc.


On the other hand, the Analytical Banking interpretation of the event depends on the Accounting Principles the bank is following.

For instance, if the bank charges the client a commission, the full amount of the commission will be considered a profit, under certain Accounting Principle, while only a partial amount of that commission will be considered a Profit under other Accounting Principal,

This different interpretation of the same event, according to different Accounting Principles, can be separated in two pieces: Nominal Accounting Entry and Accounting Principle dependent adjustments.

Nominal Accounting entries are very close to the world of the facts, they represent a transfer of value, as it happens in the operational world. Finally, Accounting Principle dependent adjustments will “adjust” the accounting entry according to specific Valuation Rules, Impairment calculations, etc.

As you can see, Nominal Accounting entries are not dependent on the accounting principles of any specific GAAP, and their amounts are reconcilable with the events in the Operational Banking system.

That is the main value proposition of the new Smart Accounting for Financial Instruments: building an accounting System which separates Accounting Independent entries (Nominal Accounting), from GAAP dependent adjustments.

Some clients and colleagues tend to think that this is not an important achievement, since most of the banks implementing Bank Analyzer – AFI have the objective of implementing as well International Financial Reporting Standards, which are meant to be common accepted accounting principles for every company, independently of the jurisdiction in which they operate.

I disagree; IFRS is meant to be a common accounting framework for analyzing quickly the company’s health, but we also need to look at the financial stability of an organization from alternative perspectives, and alternative accounting principles will fulfill this objective.

For instance, in some jurisdictions, the regulator requires that the Financial Institutions provide what they call “Shadow Accounting” statements. These Shadow Accounting statements, are basically Financial Statements, in which the Bank discloses the potential value of its portfolio, without including the Losses of the damaged Assets.

By comparing the results of the bank with and without Impairment Losses, the bank is providing an approximation to the potential and actual performance of its portfolio.

With the central GAAP approach and the Smart-AFI functionalities of Bank Analyzer 9, the bank can provide a Principal sub-ledger which follows the main Accounting Principals on this jurisdiction, and another sub-ledger following the Shadow Accounting Principals.

Additionally, both sub-ledgers can be transferred with the GL-Connector, to the Parallel Ledgers of the ECC-Finance or the S/4HANA Simple Finance System, with a seamless integration of the Financial Instruments Subledger and the General Ledger of ECC-Finance or the Universal Ledger of S/4HANA Simple Finance.

Another example; some banks represent their Expected Losses due to Credit Risk and the Value at Risk of their Market Risk exposures in their Financial Statements. Thanks to the Integrated Financial and Risk Architecture of Bank Analyzer is easy to develop a CVPM process which reads the Credit Risk-Expected Losses from the correspondent Result Type of the Results Data Layer (SKCRE) and generates accounting entries at Financial Transaction Level in the correspondent Result Type (SFISD).

But the Expected Loss Amount has different values according to the Approach the bank has followed to calculate it (standardized approach, Foundation IRB or Advanced IRB), and the correspondent accounting entries represent implicitly, an alternative Accounting Principle.

This means, that every parallel ledger of the Bank Analyzer sub-ledger, represents alternative valuations and costing sheets of the bank's Financial Instruments, providing justification of these valuations, from alternative perspectives and accounting models.

For the moment, we cannot calculate the Value at Risk in Bank Analyzer. But we can still integrate externally delivered calculations at the Results Data Layer, thus creating a gate for newer integrated scenarios of Risk and Accounting. And these scenarios will represent implicitly more Accounting Principles, and alternative interpretations for the value of the Bank's portfolio.

Join the SAP Banking Group at: http://www.linkedin.com/e/gis/92860
Looking forward to read your opinions.
K. Regards,
Ferran.