Why Bank Analyzer – AFI is not a sub-ledger anymore? Chapter I.

Dear,
Since version 5 of Bank Analyzer was released 10 years ago, we've enjoyed a powerful system for the management of the Financial Instruments of an institution, from two perspectives.

- Multi-GAAP, Accounting representation of the financial events, impacting the Bank's portfolio (Bank Analyzer-AFI).

- Capital Consumption and correspondent Capital Requirements of the Bank's Assets (Bank Analyzer-Credit Risk).

This double representation is the foundation of the Integrated Financial Risk Architecture of Bank Analyzer, which was already available in previous versions of the system.

On the other hand, and that was the most relevant improvement of the version 5, the Accounting for Financial Instruments module of Bank Analyzer offered complete Financial Statements of every contract of the Bank, fully integrated and reconcilable with the General Ledger.

This integration was provided with the structure of a sub-ledger. In the AFI sub-ledger we have the detailed statement of every Financial Instrument/Transaction, fully reconcilable on account level, with the aggregated statement of the company, available in the General Ledger.

On the other hand, as the number of entries of the detailed sub-ledger, is far bigger than the aggregated entries of the General Ledger, the final architecture was called Fat-Subledger / Thin-General Ledger.

This was 10 years ago; on 2010 we saw the release of the SAP HANA Database whose performance opened new opportunities in Information Systems simplification, and since 2015 we can enjoy a new concept of Accounting Simplification with the Universal Journal of S4 HANA.

Amongst other advantages, the Universal Journal of S4 HANA has eliminated the separation between the sub-ledgers and the General Ledger.

With the Universal Ledger, the accounting information is not spread in the information system of the company.

We don't have to look for accounting aggregated information in the General Ledger and detailed accounting information in the Sub-ledgers (Accounts Payable, Accounts Receivable, Assets Management, Projects System, Real Estate, Material Ledger, etc.). With the Universal Journal, we have all the accounting information in a single multi-dimensional ledger, with separated but integrated entries, structured on the multiple dimensions of this ledger.

The simplified architecture of the Universal Ledger comes with new capabilities for analyzing and reconciling the accounting information.

For instance, let's imagine that we have to model the business process of a construction company, in which the invested capital is collected in the Projects System module, till the Work in Process is activated in an Asset, that will be managed by the Assets System module of SAP ECC. Finally, the asset will generate profits by lease out contracts, managed with the Real Estate Module.

Without the Universal Journal, accounting information for Projects needs to be recovered from the WBS's tables (PROJ, PRPS, etc.), while the accounting information of the Assets is stored in the Assets System tables (ANLA, ANLB, ANLC, ANEK, etc.), and the Lease Out contracts are stored in the Real Estate tables (VIMIMV, VIMI01, etc.).

With the Universal Journal, the accounting entries of the WBS elements, the Assets and the Lease Out contracts will be posted in the Universal Journal tables (ACDOCA, BKPF, etc) during all phases of the business process, simplifying the reporting and reconciliation requirements.

But let's come back to the Bank Analyzer system; theoretically SAP – AFI is not part of the S4 HANA simplification initiative, and consequently it will not offer the integrated capabilities of the Universal Journal.

Recently, we worked in a proof of concept for taking advantage of the Universal Journal capabilities, integrated with the Accounting for Financial Instruments module of Bank Analyzer version 9.

We'll talk about our conclusions in the next blog.

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

"Utility Settlement Coin" as a driver of the Banking Transformation.

Dear,
Last year, we discussed about the opportunities of the Blockchain technology.

https://www.linkedin.com/pulse/bitcoin-sap-banking-ferran-frances?trk=mp-reader-card

https://www.linkedin.com/pulse/dynamic-collateral-management-sap-bank-analyzer-ferran-frances?trk=mp-reader-card

Several systemic banks, including UBS,  Deutsche Bank, Santander, BNY Mellon, the market operator ICAP and the technology company Clearmatics have partnered in the development of the new "Utility Settlement Coin".

The "Utility Settlement Coin"  is a digital currency, supported by the Blockchain technology, backed by financial assets deposited in central banks.

The liquidity of the assets backing the USC should help in reducing the volatility and incentive the adoption of the new currency.

Using Blockchain technologies, instead of clearing houses and traditional banking settlement networks, presents two advantages:

- Reduction of settlement time from days to minutes.

- Reduction of settlement costs. Some studies estimate that the adoption of Blockchain technology for banking settlements will produce costs reduction of $20 Billion a Year.

With this incentives, it's obvious that will see soon many other initiatives incentivizing the use of Blockchain distributed ledgers.

But the advantages of the Blockchain will not come by doing the same things cheaper and faster, the advantages of the Blockchain will come by doing new things that we can't do today.

The impact of the Internet in the two legs of the value chain has been unbalanced in the last two decades. While the leg of the supply of goods services from the vendor to the client has experienced revolutionary changes, the leg of the transfer of value and payment from the client to the vendor, is still in the pre-internet era.

Corporates have replaced legacy Information Systems with ERP's (mainly SAP), improving dramatically the transparency, efficiency and traceability of their Supply Chains,

Companies collaborate in integrated Supply Chains, with Subcontracting and Work Order Collaboration or Vendor Managed Inventory scenarios, but they have to clear the payments for this goods and services with Financial Services provided by banks which are still relying in outdated legacy systems, and inefficient clearing and payment networks.

Blockchain technology provides the foundation of the Internet of Value, which is going to drive dramatic changes on the way in which companies, clients, vendors and intermediaries interact in the Value Chain.

Revolutionary Financial Services are going to appear in the new years; Dynamic Collateral Management, Optimized Margin Management supported by smart-contracts in smart distributed ledgers like Ethereum, even new services that we can't imagine today.

But the question remains; is it possible to implement these services on outdated information systems?
I don't think so.

These services will require Simplified Information Systems, collaborating in value networks, with the Information Systems of their counter-parties.

SAP has simplification technologies like HANA, and deep knowledge of the best practices for running Supply Chains, that we will have to integrate with the new Internet of Value.

Considering these assets; does SAP have the opportunity to leader this transformation, as it has leadered the transformation of the Supply Chains?
I'm convinced it does, and I hope we will comment it together in this blog.

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

IFRS 15 implications for Banks and the SAP Bank Analyzer sub-ledger.

Dear,
Last February I commented in a blog, that IFRS 15 presented important implications for the Banks Information Systems.

https://www.linkedin.com/pulse/fulfilling-ifrs-9-ifrs-15-sub-ledger-requirements-sap-ferran-frances?trk=mp-reader-card

As a consequence, some colleagues and readers of this blog have come back to me privately reminding me that IFRS 15 does not apply for contracts with leases, that are subject to IFRS 9.

I always appreciate very much this feed-back, I'm sure I make many mistakes that I can fix with your help, and on the other hand; there's no better way of learning, than opening a discussion with other colleagues.

By the way, this is the basis of the Hegelian dialectic “Thesis, Antithesis, Synthesis”

In this particular case, it's true that IFRS 15 does not apply for contracts with leases, but this doesn't mean that Bank's information systems are not impacted by the IFRS 15 regulation, which should be implemented by January 1, 2018.

The reality is that Bank's have always offered non-lending services, Foreign Exchange Services, Locker Services, Debit Cards, Local and International Payment Services, and these services conditions must be specified on contracts, that according to IFRS 15 must be valuated individually.

And keep in mind, that as consequence of the current, historically low interest rates, revenues generated by not-lending services are more important in the operating results of banks, making them more relevant in the analysis of the banks' results.

If you're interested in this topic, I recommend you to read the working paper of the Bank for International Settlements “The influence of monetary policy on bank profitability”, that you can find in the following link.

http://www.bis.org/publ/work514.pdf

Fortunately, SAP Bank Analyzer capabilities, integrated with the cost and revenue recognition functionalities of  other SAP Components (Cost Center Accounting, Activity Based Costing, Controlling Orders, CRM, Profit and Cost Distribution tools of Business Planning and Consolidation, etc), offer powerful functionalities for the tracking and analysis of non-lending profits and costs.

The main competitive advantage of the SAP Business suite is the seamless integration of business process incorporating lending and non-lending business processes.

In some cases, separating the lending and non-lending components of a contract can be very challenging for the Information System of a Bank. For instance, one bank can offer a locker to a client who also has a mortgage loan, and both services payments are cleared in a current account with an overdraft facility.

Integrating the lending and non-lending contracts in Bank Analyzer will have many advantages.

Bank Analyzer supports the tracking of all the revenues and costs amounts, generated by the lending and non-lending services, posted with Business Transactions and Items.
These amounts will be accumulated in the correspondent Posting Key Figures by the multi-accounting logic of the Process and Methods Layer.
Finally, the Processing Categories of the Posting Key Figures will provide us the technical classification of the nature of the Profits and Costs, under the interpretation of the implemented Accounting Principles.

On the other hand, tracking accurately the costs associated to some of the services can be very challenging. In Bank Analyzer we can easily post the Standard Cost associated to a service, but the key point is determining an accurate and valid amount of the Standard Cost.

With decades of successful implementations in manufacturing and services companies, SAP ECC, CRM and Business Planning components have proved to be very useful for determining the actual and planned costs associated to non-lending services. This know-how can be leveraged in the determination of the costs associated to non-lending services of banks.

Finally, the open architecture of the Financial Database will provide the integration layer of the above calculations. Once they've been incorporated as accounting entries of the Results Data Layer, they will be transferred to the General Ledger with the standard capabilities of the General Ledger Connector, fulfilling the reconciliation requirements of IFRS 15.

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

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

Stress Testing, TLAC, MREL and Capital Optimization with SAP Bank Analyzer.

Dear,
Friday this week the European Banking Authority will release the results of its latest stress test.

http://www.eba.europa.eu/risk-analysis-and-data/eu-wide-stress-testing/2016

Capital requirements and capital levels have been the main topic in Banking supervision since the 2008  financial crisis.

In the same line, two words are going to become very popular in the next months, TLAC and MREL. TLAC stands for Total Loss Absorbing Capacity and MREL stands for Minimum Requirement for Own Funds and Elegible Liabilities.

The Total Loss Absorbing Capacity determines the capital requirements for systemic banks and financial groups, that must be available to absorb potential losses.

The Minimum Requirement for Own Funds and Elegible Liabilities will determine the capital requirements for non systemic banks.

Implementing these standards is going to have serious consequences. During this year, European banks have suffered heavy losses in the stock market as a consequence of high levels of delinquency, low profitability of the banking business, and the regulatory changes increasing the banks capital requirements.

Additionally, shareholders losses penalize the markets feeling on the banking sector, increasing the cost of capital of the industry, opening the gate for more losses.

Bringing clarity to the regulatory framework is the key to exiting this vicious cycle; hopefully, in the oncoming months, the regulator will define.

1) The standard and internal approaches to measure the Credit and Operational Risk.

2) Methods to determine the Leverage Ratio for systemic and non-systemic banks.

3) Final definition of the Total Loss Absorbing Capacity requirements and Minimum Requirement for Own Funds and Elegible Liabilities, for systemic and non-systemic banks.

The question is; what can be the impact of the final definition of the regulatory framework?
Let's see some estimations.

Two weeks ago, David Folkerts-Landau, chief economist of the Deutsche Bank, estimated that 150.000 million euros are needed for recapitalizing the European banking system.

http://www.bloomberg.com/news/articles/2016-07-10/eu-banks-need-166-billion-deutsche-bank-economist-tells-welt

According to Bloomberg, the European Banking Authority estimates that 470.000 million euros are needed for fulfilling the capital requirements determined by the TLAC and MREL standards.

http://www.bloomberg.com/news/articles/2016-07-20/european-banks-may-need-517-billion-of-loss-absorbing-capital

It's clear that Capital is going to be scarce and expensive, consequently Capital Optimization is going to be at the center of the banks strategic plans.

Capital Optimization starts by measuring how, where and when capital is consumed. Questions that can be answered by SAP Bank Analyzer.

Bank Analyzer comes with a data-model (Financial Database), and a calculation layer (Risk Engines of the Process and Methods Layer), which provide detailed measurement of the capital consumed by any analytical dimension.

The Financial Position Objects of the Results Data Layer represent the fundamental constituent of the capital and accounting value of the banks financial instruments.

Additionally, the Financial Position Objects can be stressed in simulated scenarios that will provide a holistic vision of the bank's portfolio value, and the capital consumed for generating this value.

And this is just the beginning; combining the computing capabilities of SAP HANA with known algorithms of discrete mathematics, like the Simplex method, we can build future Risk Engines for Capital Optimization.

This is the value proposition of Bank Analyzer, the best answer for the biggest concern of the banks' executives.

In my opinion, this value proposition should be highlighted, maybe calling it Capital Optimizer instead of Bank Analyzer, but this is a different story.

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

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

Why SAP Bank Analyzer is not an Accounting System?

Dear,
Recently I spoke with the Country Manager of an SAP Partner who has detected several opportunities for implementing Bank Analyzer - AFI in his region.

He mentioned his concerns about the challenges of implementing Bank Analyzer, compared to other competitors.

"It's hard to sell an IFRS Accounting System more expensive to implement, even if it comes from the leader on developing Integrated Information Systems".

But comparing Bank Analyzer with an IFRS Accounting system is a mistake, because Bank Analyzer is not just an accounting system.

Bank Analyzer is a Capital Optimizer, which also fulfills the IFRS reporting requirements of a Financial Institution.

Today, the executives of most of the Banks and Insurance companies of the world are concerned with being IFRS compliant in the next months, because they're very aware of the consequences if they are not.

But this is just the beginning, at the same time the credit risk managers are concerned about the Basel III reporting requirements and the justifications of their IRB Risk models.

The Bank's information architects are trying to determine the full implications of the BCBS 239 directive. And very soon, they will discover that IFRS 15 also applies for Banks and it comes with very deep implications for the Bank Information Systems Architecture.

And for making it worse, bank's executives are concerned  with the rising Capital Requirements, including the Total Loss Absorbing Capacity regulation, and the difficulties of generating value for their shareholders in a difficult environment of margins reduction.

It seems that the regulator has decided to make the bankers’ lives difficult, just when they face the worse economic environment with negative interest rates and limited growth.

This is not personal. Regulators know that we're in the middle of a Systemic Crisis that will transform the Financial System, from a model based in volume, to a model based in Efficient Management of Capital.

That's why they are driving bankers towards the new paradigm, saturating them with new and harder regulations.

IFRS 9, Basel III, IFRS 15, BCBS 239, TLAC are not isolated pieces of regulation, they're a complete framework designed to put Capital Efficiency at the centre of the banks' strategic objectives.

Additionally, auditors look at the figures, with the obligation of reconciling the information provided by all the reporting requirements.

The response to this challenge requires a holistic modelisation of the Bank's Capital and Liquidity. This is the Integrated Financial and Risk Architecture of SAP Bank Analyzer.

In one sentence; the Bank Analyzer IFRA provides an accurate mesurement of the Capital and Liquidity, generated and consumed, by any potential combination of analytical dimensions, including the business processes involved.

For instance, IFRS 9 requires to report in "accounting terms", the Capital generated and consumed by business segment, including Fair Value and Impairment Calculations.

Basel III and Total Loss Absorbing Capacity regulations require banks to report the Capital consumed by business segment, and BCBS 239 defines the Data Governance for proving the accuracy of the Capital and Liquidity calculations.

Bank Analyzer Primary Objects and Financial Position Objects are the bricks of the holistic data model, and the Bank Analyzer Risk Engines provide the necessary calculation logic to fulfill the above and future reporting requirements.

This is the answer I always give to clients who ask me why they must implement Bank Analyzer.

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

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

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.