Targeted Review of Internal Models & SAP Analytical Banking framework.

Dear,

On March the 4th 2015, the European Banking Authority (EBA) issued a discussion paper analysing the future of the Internal Rating Based Approach in which talked about “a lack of trust in the use of IRB models”.

https://eba.europa.eu/regulation-and-policy/credit-risk/discussion-paper-on-the-future-of-the-irb-approach

For years, there has been a growing concern amongst the Banking supervisory authorities, regarding serious inconsistencies and high variability,  in the capital requirements calculated by different bank’s internal models.

According to this paper,  some of the main sources of differences in RWAs,  that cannot be explained by the different risk management practices of the Financial Institutions,  are the definition of Default, Probability of Default calibration and Loss Given Default calibration.

Consequently, in this paper,  EBA set out an agenda for further improvements and clarifications in the regulatory framework for IRB models.

In February 2017, the ECB made public the ECB guide to internal models,  with the objective of helping Banks to prepare the on-site inspections. The Guide presents the ECB’s proposal,  on the supervisory practices,  and how should be applied across the Euro area. Finally, the on-site assessments will be used to identify compliance gaps as against the standards and principles defined in the Guide.

https://www.bankingsupervision.europa.eu/ecb/pub/pdf/ssm.guidetointernalmodels_consolidated_201910~97fd49fb08.en.pdf

The targeted review of internal models, or TRIM, is a project to assess whether the internal models currently used by banks,   comply with regulatory requirements, and whether their results are reliable and comparable. Banks can use internal models to determine their Pillar 1 own funds requirements, i.e. the minimum amount of capital they must hold by law.

One major objective of TRIM is to reduce inconsistencies and unwarranted variability,   when banks use internal models to calculate their own funds requirements.

TRIM will investigate if a bank meets the minimum requirements to use the internal model approach,   and the on-site investigation will focus on the compliance of the model requirements, examine the portfolio on which the internal model is applied and examine the adequacy and adaptability of business processes related to the model.

TRIM presents important challenges to banks; in my opinion the main one is that most banks present heterogeneous and very low quality data,   spread in different silos, lacking on tracking capabilities to the bank’s Operational Systems.

SAP Analytical Banking framework, including Credit Risk Analyzer, Financial Products Subledger and Financial Services Data Management, provides a set of tools for fulfilling the requirements of TRIM.

- The Source Data Layer provides a Central Repository of homogeneous Operational Data (Master and Transaction Data).

The Primary Data Objects of the Bank Analyzer Source Data Layer have been designed to cover the Analytical and Regulatory requirements, independently of the capacities/limitations of the Operational Banking System. Bank’s architects can take advantage of these standard templates,  as a basic reference, trusting that the regulatory requirements will be fulfilled, and performing a gap analysis which helps them to identify data inaccuracies and redundancies.

- The Extract, Transformation and Loading capabilities of SAP Smart Data Integration in Premise and in the Cloud, including the high-performing capabilities of SAP HANA for storing and managing very-high volumes of data, reducing intermediate tables and assuring the referential integrity of the database.

- SAP Financial Services Data Management supports redundancies elimination by managing the bank's data,  with a single-source-of-truth approach,  through a unified data model.

- Reporting capabilities make it easier to reconcile results from different reports,  because different reports use the same source data and the same data model for the business semantic.

- The Historical Database provides the functions for Collecting Data from the Operational Banking Systems, Calculation of the Default Rates, Data Storage for the Calibration of the model and Audit and Historization capabilities.

- The Credit Exposure calculation determines the risk key figures,  for exposures and their collateral, meeting the requirements of the Basel III Accord.

At the same time that TRIM audits are taking place, other regulatory developments are happening. On January 2013, the Bank for International Settlements published the standard 239 whose subject is: "Principles for effective risk data aggregation and risk reporting"

https://www.bis.org/publ/bcbs239.htm

In April 2020, the Basel Committee on Banking Supervision published its latest progress report on banks' implementation of the Principles for effective risk data aggregation and reporting.

https://www.bis.org/bcbs/publ/d501.htm

The main conclusion is that none of the banks are fully compliant with the Principles,  in terms of building up the necessary data architecture and, for many, IT infrastructure remains difficult.

BCBS 239 demands coherency on the Risk Parameters Calculations and their Finance and Risk interpretations,  and this requires an effective collaboration between Finance and Risk divisions of the banks.

 

In my experience, bank’s information systems lack a common architecture and holistic data-model facilitating the reconciliation.

This is the foundation of the Integrated Financial and Risk Architecture of Bank Analyzer. And this integration has improved,  significantly,  with SAP S/4HANA for Financial Products Subledger.

Looking forward to reading your opinions.

K. Regards,

Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

Visit my SAP Banking Blog at: http://sapbank.blogspot.com/

Let's connect on Twitter: @FerranFrancesGi

Ferran.frances@capitency.com

Liquidity Optimization with SAP Central Payments.

Dear,

Integration has always been the key word for SAP; 30 years ago we integrated Departments of Companies, 20 years ago we integrated Companies in Companies Groups, 10 years ago we integrated Companies Groups with other Companies Groups with intergroup processes.

Integration facilitates sharing information which is the basic requirement for efficiency, but implementing a fully integrated system presents challenges.

The best example of the SAP integration capabilities is the Single Global SAP System Instance Architecture which reduces Operational Costs and Increases Visibility of the Business Processes.

Implementing a Single Global SAP System Instance has become a common objective in most organizations but it requires time and budget due to organizational and cultural issues, Acquisitions, Merges, etc.

For this reason SAP has developed alternatives for partial integration technologies of business processes, which provide more limited efficiency than a Single Global System Instance, but require much less effort to implement.

SAP Central Finance is a great achievement in this area, and Central Payments a very good example of it.

The basic idea of the Central Payments functionality is integrating the Accounts Receivable and Accounts Payable business processes of a Companies Group in a Central Finance System, but keeping other business processes in the Local Satellite Systems, reducing the integration effort and speeding the integration project up.

This approach is compatible with the Global System Instance one, so the Program Manager can build a roadmap in which some affiliated companies are fully integrated and in others the integration is limited to the AP & AR functionalities in a first stage, followed by a full integration later in time.

When we enable the Central Payment functionality in a Company Code the System replicates the Open Items from the satellite system to the Central Finance System, and sets the status Technically Cleared in the Open Item of the satellite system, then the clearing process continues in the Centralized System.

SAP Central Payments also supports the integration with non-SAP System, but in this case the replication and technical clearing functionalities of the satellite system Open Items must be provided by a third-party or developed during the implementation project.

Building a Centralized Payments System has many advantages, amongst others.

• Liquidity Optimization.- With this approach we can have a Companies Group vision of the cash position. With this information the Central Treasury department can calculate the net liquidity gaps & surpluses of the group reducing the financial costs and improving the management of the short-term investment opportunities. This vision is limited to the short-term liquidity position, as commitments (sales orders, purchase orders, etc.) are not integrated in the current version of Central Payments.

• Additionally, we can implement In-House-Cash and Bank Communication Management functionalities on top of the Central Payments System for managing the intra-group lending requirements and reducing banking commissions and operational costs.

• Opens the gate for the Central Implementation of the newest SAP Leonardo most visionary functionalities like SAP Machine Learning Cash Application, deploying the capabilities of machine learning intelligence for the companies group open items and payment matching process.

Looking forward to reading your opinions.

K. Regards,

Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

Visit my SAP Banking Blog at: http://sapbank.blogspot.com/

Let's connect on Twitter: @FerranFrancesGi

Ferran.frances@capitency.com

Limits of Growth, Capital Scarcity and the SAP Integrated Financial and Risk Architecture.

Dear,

Since 12 years ago I wrote the first SAP Banking post in this community, I always tried to explain that we are in the middle of a Systemic Transformacion of the Financial System, from a model based in Volume to a model based in Capital Optimization.

In theory, Optimizing Capital is a logical activity, it means determining the price of a Financial Instrument by taking all the costs into account (including Capital costs), or in other words, maximizing the return of a Financial Instrument (or a Portfolio) weighted by its Capital Consumption.

In an economic environment enjoying strong economic growth and limited debt, Capital is abundant. The world enjoyed this economic environment for most of Capitalism history.

If Capital is abundant there is no much difference between maximizing the return of a Financial Instrument or maximizing the return of the Financial Instrument weighted by Capital consumption.

In some sense, this has been a common understanding in the economic model which emerged after the Second World War. For instance, in the early 60s, the US President John F Kennedy popularized the quote "A rising tide lifts all the boats" meaning that the focus of an economy should be growth.

Unfortunately, the current economic environment is very different; today's economy has the most limited growth of the Capitalism history and the same applies for global debt which is also the biggest in history.

This was systematically analyzed in the early 70s by the Club of Rome that Commissioned the report "The Limits of Growth" which clearly established the unsustainability of an economic model sustained by unlimited growth in a World of Limited Resources.

 

https://en.wikipedia.org/wiki/The_Limits_to_Growth

Decreasing is not an option, natural resources scarcity and pollution make unlimited growth impossible. Some economists predict that scientific discoveries and technology improvements will find new ways to fuel economic growth, although simple observation of the rising global debt and dependency of the fossil sources of energy make clear that this is not the case.

It is not my intention to start a debate about the Limits of Growth, in my opinion there are many reliable sources of information where you can validate the conclusions of the Club of Rome report. If you think these conclusions are not valid, this blog will not be interesting to you.

The Financial System decisions are based on the hypothesis that, in general, counterparties fulfill their obligations. Consequently, the logical investment strategy is allocating Capital on those activities with higher expected returns, paying less attention to the risk of the investment.

But when Capital becomes scarce, Risk management becomes critical and it must be at the center of the Financial decisions.

This is a principle brilliantly explained in 2005 by the Chief Economist of the International Monetary Fund and future Governor of the Reserve Bank of India, Dr. Raghuram Rajan.

https://www.imf.org/en/News/Articles/2015/09/28/04/53/sp082705

Managing Risk is mainly managing Information and consequently Information Systems are at the foundation of Risk Management.

I have been SAP consultant for nearly 30 years, and the last 14 focused in Analytical Banking. For years I have expected the transformation of the banks information systems, a transformation that has not started yet.

For instance, the Financial Statements are still considered one of the main deliverables for auditing the health of a bank; Financial Statements with tens of thousands of GL-Accounts, with very limited tracking capabilities of the source of the Account's balance.

Additionally, Accounting Principles offer very limited capacity for representing critical solvency magnitudes.

Can any of you explain to us how to properly model commitments, probabilities of default, loss given defaults, value at risk or risk weighted assets in a Financial Statement?

I know that Solvency is reported with specific frameworks like FINREP, COREP, FFIEC, etc. but they are built by collecting most of the data from the Financial Statements, which are not suited for storing Solvency Information.

On the other side, the SAP Integrated Financial and Risk Architecture offers a multi-functional representation of the main bank's regulatory requirements, with a balanced and reconcilable representation of the economic events in Accounting and Solvency magnitudes.

With the integrated analytical capabilities of the Integrated Financial and Risk Architecture is feasible to answer the question, "what is the return of a Financial Instrument weighted by its Capital Consumption?". This is for me the main question and the starting point of a Capital Optimization Process.

Looking forward to reading your comments.

K. Regards,

Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

Visit my SAP Banking Blog at: http://sapbank.blogspot.com/

Let's connect on Twitter: @FerranFrancesGi

Ferran.frances@capitency.com

COVID-19, Capital Scarcity and Impairment Calculations in SAP Bank Analyzer.

Dear,
As a consequence of the COVID-19 outbreak pressure on the banking system is growing and higher defaults on debt are imminent. And many now expect a shock to the financial sector similar in magnitude to the 2008 crisis.

Bank’s capital is the main concern, many workers lost their jobs and paychecks. Restaurants, hotels, and airplanes all emptied. And consumers and businesses now face steep losses in income and potentially widespread bankruptcies.

The Basel Committee in Banking Supervision has reminded the importance of has reminded the importance of risk weighted accounting and capital consumption.

“The Committee reiterates the importance of expected credit loss (ECL) accounting frameworks as a forward-looking measure of credit losses, and expects banks to continue to apply the relevant frameworks for accounting purposes.”

https://www.bis.org/press/p200403.htm

https://www.bis.org/bcbs/publ/d498.pdf

Due to the extraordinary situation, the Committee has decided to postpone the implementation of the revised G-SIB framework by one year, from 2021 to 2022, and the two final implementation phases of the framework for margin requirements for non-centrally cleared derivatives by one year.

But this economic environment and the governments initiatives are also going to increase global debt which combined with recession is making capital very scarce.

As free capital becomes scarce, it also becomes more expensive, driving the Systemic Transformation of the Financial System from a model based in Volume to a model based in Efficient Management of Capital.

Financial Assets consume Capital in three main ways:
- Credit Risk.

- Market Risk.

- Operational Risk.

The Basel III agreement establishes the main metric for measuring the Capital consumed due to Credit Risk exposure of the Financial Assets, and builds the foundation for the calculating the Capital requirements of a Financial Institution.

The Basel III agreement distinguishes between the Expected and Unexpected Loss produced by a Credit Risk exposure, the first one must be covered by Impairment Provisions, and the second one by Capital.

A valid model of capital optimization must reduce the capital consumed on credit risk exposures by limiting both, the Expected and the Unexpected Loss at the same time.

The Internal Rating Based Approach, both Foundation and Advanced gives us an opportunity for building a holistic Credit Risk Optimization System, as the Credit Risk model used for determining the Probability of Default, and the Loss Given Default and Exposure at Default (in case of the Advanced Approach) can be used, with some adjustments, as a basis for determining the Impairment Provisions.

In this model, the Impairment Provision is compared with the Expected Loss; if the Expected Loss is higher than the provision, the excess of Expected Loss is reduced from the capital.

On the other hand, if the Expected Loss is lower than the provision, banks may recognize the difference in Tier 2 capital up to a maximum of 0.6% of credit risk-weighted assets.

http://www.bis.org/publ/bcbs128.pdf

This holistic management of Capital Requirements and Impairment Provisions requires a integrated modeling of Risk and Accounting, which is exactly the foundation of the Integrated Financial and Risk Architecture of SAP Bank Analyzer.

From release 8, SAP Bank Analyzer offers the Impairment Processes submodule, fully integrated with the Accounting for Financial Instruments module.


The Impairment Processes of Bank Analyzer offer:

- Automatic determination of the percentage of Expected Loss from the Rating and the Delinquency Bands of the Exposures.

- Dynamic classification of the Financial Assets in the Bad or Good book by processing the Impairment Events.

- Determination of the Accruing Status of the Impaired and Performing Assets according to the IFRS requirements.

- Determination of Expected Loss, Provision Amounts, Write-down and Write-off, and the unwinding for the Exposures, including Off-Balance Exposures by using Credit Conversion Factors.

- Posting of the Impairment Provisions on the Bank Analyzer sub-ledger fully integrated with the Accounting Processes.

- Transfer of the Impairment Provisions to the General Ledger and complete reconciliation of the Impairment Provisions between the sub-ledger and the General Ledger.

And this is just the beginning; as mentioned above, the Integrated Financial and Risk architecture of SAP Bank Analyzer opens the gate for more complete representations of the banks capital consumption, we'll talk about them in future blogs.

Looking forward to read your opinions.
K. Regards,
Ferran.

www.capitency.com
Join the SAP Banking Group at: https://www.linkedin.com/groups/92860
Visit my SAP Banking Blog at: http://sapbank.blogspot.com/
Let's connect on Twitter: @FerranFrancesGi
Ferran.frances@capitency.com

Costing-based and Account Based Financial Statements in SAP FPSL and the new combined Profitability Analysis of S4 HANA.

Dear,
Building a multi-dimensional P&L facilitating the analysis of the companies profitability as per market segments by integrating the sales, profit/loss and cost related data from other modules like Sales and Distribution , Production, Materials Management, etc. has always been one of the greatest  SAP capabilities.

The Profitability Analysis module of SAP has delivered this functionality in two structures, the Account Based and Costing Based Operating Concern.

In a nutshell the Account Based PA stores costs and revenues in GL Accounts and Costing Based PA stores costs and revenues in Value Fields.

Value Fields are more flexible than GL Accounts as they represents cost and revenue splits (condition and flow types) and groups, but they also generate reconciliation challenges with Financial Accounting as it is based in GL-Accounts.

SAP Analytical Banking has always had some parallelism with Profitability Analysis. SEM Banking , the precursor of Bank Analyzer more than 20 years ago, offered a multi-dimensional P&L Account of Financial Instruments using Characteristics and Value Fields in an Operating Concern. The technical parallelism with Cost-Based Operating Concern of Profitability Analysis was clear.

When some years later, SAP released Bank Analyzer Accounting for Financial Instruments (Merge Scenario) they included a multi-dimensional Financial Statement for Financial Instruments, which obviously included a multi-dimensional P&L.
In this case, SAP also included the Account-Based (GL-Accounts) Financial Statement, and not only the Costing-Based Financial Statement.

Additionally, the SAP architects of Bank Analyzer included something new, the consistency between Posting Key Figures (Value Fields in SAP-Financial Database terms) with GL-Accounts.

As a difference to “classic” Profitability Analysis in which there was no technical link between Value Fields and GL-Accounts, SAP Bank Analyzer forced a technical link between GL-Accounts and Posting Key Figures (Value Fields) facilitating the reconciliation between the Costing-based and Account-based Financial Statement.

Note, that this concept of a technical link between GL-Accounts and Posting Key Figures (Value Fields) was available in the Bank Analyzer space more than 15 years ago.

Sadly, even today, there are some so-called “Bank Analyzer consultants” who do not understand the business sense of the Posting Key Figures and how they must guarantee the reconciliation between the Account-based and Costing-based Financial Statement of Financial Instruments in Bank Analyzer, but this is due to their lack of knowledge and not to any technical limitation of SAP Bank Analyzer.

The concept of Posting Key Figures remained in the Bank Analyzer Subledger-Scenario which integrated the Financial Statement of Financial Instruments in the SAP ECC General Ledger providing a complete Financial Statement in SAP-ECC.

The main difference between the Subledger Scenario and the Merge Scenario of Bank Analyzer is that the second did not have integration with the General Ledger, and the complete Financial Statement (including Financial Instruments and other GL-Accounts) was delivered in Business Warehouse.

With Smart-AFI, SAP offered an improved integration between Posting Key Figures (now they are called Subledger Accounts but they are basically the same concept), and GL-Accounts, including a new concept called Financial Statement Sub-Item Category which determines how the Subledger Account (Posting Key Figure or Value Field) and the GL-Account must behave, and assuring the consistency between the Account-based and the Costing-based Financial Statement of Financial Instruments.

When it comes to the last evolution of Bank Analyzer which is FPSL, it does not present any major change infront of Smart-AFI on this area. They both use the same concept of Financial Statement Subitem Category for guaranteeing the reconciliation between the Account-based and the Costing-based Financial Statement of Financial Instruments. There are some improvements in the integration with the General Ledger, but nothing new in the reconciliation between Subledger Accounts (Posting Key Figures or Value Fields) and GL-Accounts.

Finally, SAP has brought this topic to the new concept of Profitability Analysis of S4 HANA (and last Enhancement Packages of ECC) with the release of the new Combined Profitability Analysis.

Combined Profitability Analysis offers a multi-dimensional P&L with both Account-based (GL-Accounts) and Costing-based (Value Fields) approach, but instead of bringing the two structures in separated data-models which do not guarantee the reconciliation between GL-Accounts and Value Fields, it does offer a technical link between GL-Accounts and Value Fields for providing the flexibility of the two approaches, but without the reconciliation issues of the classic Profitability Analysis.

This is just the beginning; the integration capabilities of the SAP architecture will facilitate a seamless integration between the Financial Statements of Financial Instruments and other Analytical elements of the company, and the new functionalities in Profitability Analysis are just an advancement.

Looking forward to read your opinions.

K. Regards,
Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

Visit my SAP Banking Blog at: http://sapbank.blogspot.com/

Let's connect on Twitter: @FerranFrancesGi

Ferran.frances@capitency.com

SAP Group Reporting, Multi-Dimensional Accounting, FPSL and Solvency Planning.

Dear,
As organizations have to operate in multiple jurisdictions and industries, it becomes critical improving a common language for communicating with their counter-parties.

Financial Planning, Reporting, Disclosure and Consolidation is the backbone of this communication language, and of the main pillars of the companies information systems.

Historically, companies prepared their Financial Statements in Flat-Structures with multiple number of GL-Accounts representing both, the economic nature of the accounting event and the analytical position where the accounting event was happening.

As companies became more complex and regulatory requirements more demanding, the growing number of analytical dimensions/positions and economic event types ended in huge chart of accounts with thousands of GL-Accounts.

For making it worse, Financial Statements structure are different amongst affiliates of the same group making consolidation a very complicated puzzle to assemble.

SAP brought a solution to the problem with the delivery of the Flexible General Ledger (with some limitations) and the Universal Journal of S4 HANA. With them, SAP provided the concept of Multi-Dimensional Ledger where the analytical positions are represented by its own dimensions combination in the coding block, and only the economic nature of the accounting event is represented by the GL-Account.

This technology opened the gate for the harmonization and simplification of the Chart of Accounts of the affiliates of a companies group, facilitating significantly the production of homogeneous Financial Statements and their reconciliation and consolidation.

With the embedded version of Business Planning and Consolidation in the Universal Journal of S4 HANA SAP provided a powerful Real Time Consolidation platform, taking advantage on the deep integration between SAP S/4HANA and the Planning and Consolidation functionalities of SAP BPC.

The Universal Journal integrates the Accounting Information in the ACDOCA table, facilitating SAP BPC direct access to the Journal Entries of the company affiliates as they are posted, so the rule based consolidation engine of SAP BPC can deliver the consolidation entries in Real Time.

SAP S/4HANA Finance for group reporting includes a complete of set of financial consolidation capabilities, supporting currency translation, inter-unit eliminations, data validation and analysis reports for company and group scope in real time.

Finally, SAP Group Reporting provides seamless integration with Cloud Analytics for central reporting and visualization of consolidated and non-consolidated financial information.

On the other hand, SAP has not delivered yet a complete solution for Solvency and Fair Value Accounting Planning, including collaterals revaluation, commitments postings, Valuet at Risk Analysis, etc.

We do have Solvency Stress-Testing Analysis in the Credit Risk Module of SAP Banking Services Analytical Banking and some new Forecasting, Planning, and Simulation capabilities in SAP Financial Products Subledger.

We also can take advantage of the Accounting and Risk Integration Capabilities of the SAP Integrated Financial and Risk Architecture, but the Planning Capabilities are still far from these available for Accounting.

Looking forward to read your opinions.

K. Regards,
Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

Visit my SAP Banking Blog at: http://sapbank.blogspot.com/

Let's connect on Twitter: @FerranFrancesGi

Ferran.frances@capitency.com

Predictive Accounting and Capital Optimization with SAP FPSL and the Universal Journal of S/4HANA

Dear,
One of the major Financial Innovations coming with SAP S/4HANA Finance is Predictive Accounting.

Predictive Accounting is an important element of the new paradigm of Continuous Accounting, which proposes a real-time implementation of the end-of-period closing processes, delivering Financial information timely, giving advantage to the managers on their decisions taking analysis, and reducing the effort of the end-of-period closing processes. 

The logic behind is “let’s use the information as real time integration technology makes it available”.

Predictive accounting goes one step further and uses Sales Orders information (commitments) for producing an Accounting Ledger, including expected Revenue and expected Cost of Sales.

Predictive accounting uses the “Prediction and Commitment” extension ledgers.
Prediction and Commitment extension ledgers are a new type of extension ledgers of SAP S/4HANA Universal Ledger, which take advantage of the improved integration of the Universal Journal and its simplification capabilities.

Prediction and Commitment Extension Ledgers enable the posting of Sales Orders (before delivery or billing) to the Universal Journal to support Revenue, Sales Cost and Profitability Forecasting

This Prediction Ledger can also be used on purchase-to-pay processes to create predictive journal entries from Purchase Orders.

SAP has offered a similar concept for many years; actually we implemented “expected Profit and Losses” functionalities in our firsts SAP R3 projects, more than 20 years ago.

SAP R3 had the Costing Based CO-PA (Profitability Analysis Module) which offered a multidimensional Profit and Loss analysis including “expected postings” from the Sales Orders, reflecting future revenue and cost of sales forecasts (Record Type A).

Unfortunately, Costing Based CO-PA had limitations as it was only available for P&L Key-Figures and it did not represent a complete Ledger with complete accounting capabilities like capital estimations or multi-currency accounting. Some of this capabilities could be built by transferring the expected revenues and costs of sales to Planning systems like Business Planning and Simulation or Business Planning and Consolidation, but the process required integration efforts and time.

Predictive accounting is an important improvement but it does not fix the issue of representing capital consumption in the Financial Statements, as accounting does not provide robust technical elements for representing commitments. Remember that Sales and Purchase Orders represent future revenues and costs but they are also represent commitments, which consume capital.

SAP Financial Products Sub-ledger comes with robust Forecasting, Planning, and Simulation functionalities supporting “predictive accounting”.

SAP FPSL has been built on top of he Integrated Financial and Risk Architecture, and shares its data model with the SAP Financial Services Data Management. They fully support capital consumption representation, including commitments, risk exposure hedging, etc.

Obviously, the integration effort of the SAP Financial Products Subledger with some business processes like Order-to-cash and Purchase-to-pay does not justify modeling them in the Financial Products Subledger, at least not yet.

But don’t forget that we are in a systemic transformation towards an economic model driven by capital scarcity. Measuring capital consumption timely and accurately is the first, mandatory requirement, for capital optimization.

At the end, Sales Orders and Forward Contracts represent the same operational reality, the only difference is its financial representation, depending on the interest or necessity of measuring its capital consumption.

Looking forward to read your opinions.
K. Regards,
Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

Visit my SAP Banking Blog at: http://sapbank.blogspot.com/

Let's connect on Twitter: @FerranFrancesGi

Ferran.frances@capitency.com

Solvency II, IFRS 17 and SAP Financial Products Subledger.

Dear,

As you probably know, since January 1st 2016, all the European insurance companies must be compliant with the new Solvency II Directive. Additionally, on January 1st, 2021 becomes effective the new Accounting Standard IFRS 17 for Insurance Contracts.

The European Union Solvency II Directive represents a major change in the insurance industry regulation. The Directive's main priorities are increasing the solvency of the Insurance companies and harmonizing the EU regulation, with the final objective of achieving a solvent and single EU insurance market.

From some perspective, the Solvency II regulation represents to the insurance companies what the Basel III and the EU Bank Recovery and Resolution Directive represents to the European banks.

This is a major challenge on the Information Systems of the Insurance companies, just for giving you an idea of the complexity of implementing these regulations, we must consider that the final implementation date has been delayed 4 years from the initial proposals. Initially, regulators looked at October of 2012 as the implementation date.

Among many other changes, implementing Solvency II has requested the creation of the European Insurance and Occupational Pensions Authority (EIOPA) that, with more competencies, replaces the Committee of European Insurance and Occupational Pensions Supervisors (CEIOPS).

The Solvency II Directive is structured in three main areas or Principles.

- Pillar 1 establishes the quantitative models which must prove that the insurance company has the capacity to fulfill its obligations, like determining the capital requirements.

- Pillar 2 sets out requirements for the governance and risk management framework that identify and measure the risk to which the insurance company is exposed, and the supervision model.

- Pillar 3 focuses on disclosure and reporting of the company risk exposures and capital requirements.

For helping insurance companies to meet with the Solvency II and IFRS 17 regulations, SAP has delivered the SAP Financial Products Subledger and Solvency 2 Ssytems.

Technically the SAP FPSL system is an evolution of the Bank Analyzer system, it's also built following the principles of the Integrated Financial and Risk Architecture, providing the full potentiality of the Financial Database.

As Bank Analyzer, the SAP FPSL System provides two groups of functionalities or modules.

- SAP Accounting for Insurance Contracts, equivalent to the Accounting for Financial Instruments module of Bank Analyzer.

- Solvency Management for Insurers, equivalent to the Credit Risk Analyzer (Basel III) module of Bank Analyzer.

And as in Bank Analyzer, the Insurance Analyzer System is also structured in 4 Layers.

- Source Data Layer.

- Processes and Methods Layer.

- Results Data Layer.

- Analytical Layer

The final objective of this 4 Layer Architecture is providing a single source of truth for Accounting, Risk and Liquidity Information

As it happens with the banks, in which sophisticated reporting tools have to coexist with non-integrated, heterogeneous operational systems, often supported by manual processes and non-integrated spreadsheets, it's going to take years before the insurance companies are fully compliant with the Data Governance requirements of the new regulation.

During this transition, the Data Governance capabilities of the 4 Layers, Integrated Financial and Risk Architecture of Insurance Analyzer will be a great help.

On the Source Data Layer, we can integrate all the data, provided by heterogeneous legacy systems, in an homogeneous Data-model of Master, Operational and Market Data.

For Instance.- Many insurance companies lack on an integrated vision of their customers data. Customers data is spread among legacy systems with very limited integration with each other, which is a root cause for undetectable fraud and inaccurate risk management.

With SAP FPSL, the insurer company can integrate in the Source Data Layer all these divergent versions of their Customer data in a single and integrated repository, building the foundation for customer-centric analysis of profitability and risk management.

Transforming the whole landscape of an Insurance company will represent an enormous effort of systems migration that will require much of the company resources. Without the integrated risk & accounting vision of Insurance Analyzer, it's not possible to align the IT strategy on the direction of the new requirements of Solvency II and IFRS 17, which are going to be the main concern for the IT executives of the industry in the oncoming years.

At the end, the stability of the insurance industry is not just a European issue, the global industry is facing major challenges, as it moves to a model driven by efficient management of Capital, and very sensitive to risk management.

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

Looking forward to read your opinions.

K. Regards,

Ferran.

www.capitency.com

Join the SAP Banking Group at: https://www.linkedin.com/groups/92860

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