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Carve-outs are Attractive for M&A, but Complications can Decrease Value

carve-outs

Carve-outs are Attractive for M&A, but Complications can Decrease Value

Before the COVID-19 pandemic brought mergers and acquisitions to a standstill, dealmakers increasingly turned to carve-out deals –the sale or divestiture of a business unit or division from a company. Our research shows carve-outs have increased by 200% since 2016, demonstrating the attractiveness of these deals.Our research shows carve-outs have increased by 200% since 2016, demonstrating the attractiveness of these deals.

But carve-outs are far from straightforward, especially across borders. The more jurisdictions involved, the higher the degree of complexity firms must navigate. (Complexity, in this case, refers to the headaches and distractions that arise when complying with new regulations, language barriers, borders, currencies, and laws.)

The increased complexity of a carve-out creates both opportunity and risk for buyers. On the one hand, not many firms have the expertise or resources to re-incorporate a business from a parent structure, meaning the few companies able to do this have a natural advantage. On the other hand, the execution risk is increased significantly, and value can be quickly lost from carve-outs if not executed correctly.

A recent survey by TMF Group found that 34% of senior executives from private equity firms with buy-side experience and 27% from corporations said their most recent cross-border carve-out failed to deliver on expectations, with 24% and 19%, respectively, saying costly overruns significantly impacted the deals. If a deal is delayed by more than four months as a result of business entanglements across jurisdictions, the average resulting cost overrun comes to about 16%.

Consider how one financial executive in India described an overrun deal: “We hadn’t expected it to be seamless, but we weren’t prepared for the effect on costs, and we had to make some hasty financial decisions to get the deal over the line.”

If a transaction takes place across jurisdictions, the complexity of those deals increases once local regulations come into play. Examples of regulations that, though innocuous, can significantly delay the deal-making process include:

-In some markets, it can take up to 60 days to open a bank account

-In others, business licenses are required before the new entity can register for VAT, while the company may need a local fiscal representative or director

-Some markets, such as the U.S., carry significant differences between states for regulations pertaining to licenses, tax registrations, and employment regulations

If these complexities aren’t accounted for at the start of the deal-making process, the monetary value of the deal can decrease, as evidenced by the 1 in 5 deals that create millions of dollars in extra costs. Take it from a head of finance at a Finnish corporation: “Complying with the domestic requirements, such as legal, accounting, and taxation, were the most difficult aspects for us to manage…rather than solving complex operational issues, we were more concerned with getting the company ready for various compliance items.”

Conversely, having a presence in the country in which a deal is conducted increases the likelihood of a deal going well. Those with a limited or no presence in the target’s country were more likely to have disappointing outcomes, with 38% of respondents who had limited or no presence at all in the carve-outs jurisdiction noting their most recent carveout had been mostly unsuccessful in terms of reaching its strategic goals.

There is, of course, the question of when deal activity will return to a pre-COVID-19 pace. It’s a question of when, not if, because private equity firms are sitting on large cash piles, interest rates are historically low and companies are distressed. Companies facing a cash flow crunch may be more likely to sell off non-core assets than consider an outright sale of the entire business. The environment is ripe for carve-outs in the near future, although valuations may look a lot different than six months ago.

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Randy Worzala is Head of Business Development – North America at TMF Group, a multinational professional services firm based in Amsterdam, providing accounting, tax, HR and payroll services to international businesses. The company has around 7,000 employees in 80 countries.

payment

How to Make Important Adjustments to Your Payment Strategy

The first couple of weeks of sheltering in place regulations saw finance and accounts payable organizations scrambling to set up remote operations and get payments out the door. Most were able to accomplish these goals quite well. Now we’ve moved into the next step–establishing efficient workflows and productive practices. It’s still challenging, however. Companies have to find ways to keep people safe while executing paper-based processes that keep their teams office-bound. For example, many companies still have to go into the office to pick up mail, circulate invoices for approval, and prepare checks for mailing.

They also must consider the best way to move forward and develop strategies for managing their teams through economic uncertainty. The Conference Board, a non-partisan economic think tank, recently sketched out three possible scenarios. Their best-case scenario predicts a 3.6% decline in US GDP for 2020, while the worst case would see a 7.4% decline. In other words, nobody knows what the next six to 12 months are going to look like.

That means AP needs to focus on conserving cash while keeping operations moving. They can expect more calls from suppliers since Accounts Receivable teams typically ramp up their efforts in tough times. They need to prioritize payments and capture early pay discounts. Procurement is going to reach out to try and renegotiate prices or terms. Treasury is going to be very interested in the timing of payments and managing working capital. It’s on the AP team’s shoulders to make sure they’re engaging with these teams and coordinating efforts.

At the same time, they’ve got to consider the efficiency and the productivity of their own team as we continue to work remotely. Among other things, that means coming up with a strategy for shifting to electronic payments at scale.

Many organizations have had this goal for a long time, but, depending on the research you look at, around 40 percent of business payments still issue by check. This number is down from a decade ago, but still problematic in a remote work environment. So why don’t businesses pay more of their suppliers electronically? Well, as everyone who rushed to shift suppliers to ACH payments when shelter at home orders took effect has learned, you can’t just flip a switch and move all your suppliers.

It’s easy enough to find a bank to handle ACH transactions for you. It also sounds a lot cheaper upfront than checks—if you only look at transaction processing costs, which are usually well below $1.

But with ACH, you have to enable your suppliers one by one, and then store and update their data securely. That becomes a fixed cost because there’s a constant churn of suppliers and their bank data–changes usually around once every four years per supplier. You should also expect to manage exceptions that arise with ACH file submissions and more nuanced supplier questions.

Thinking ACH is cheap or straightforward is one of the biggest misconceptions holding companies back from paying electronically. That’s not to say you shouldn’t make ACH payments. That said, they should be part of a holistic strategy that addresses the entire payments workflow, encompassing all forms of payment, including international wire payments.

What does that look like?

Card first

If you’re going to reach out to suppliers to enable them for electronic payments, you should first ask them to accept payment by credit card.

Virtual cards–sometimes known as single-use ghost accounts or SUGAs–are not as well-known as they should be in finance and accounting circles. Still, they can be an incredibly valuable part of your payment strategy. Unlike P-cards or company-issued credit cards, virtual cards exist to pay suppliers easily. Each card has a unique number that can only be used by the assigned recipient in the designated amount. That provides AP with substantial control and makes it one of the most secure, fraud-proof payment methods. You also should expect to receive rebates to offset some of your AP costs.

The main challenges are enablement and outreach, which don’t require significant effort on the part of AP teams since virtual card payment and remittance are relatively straightforward for suppliers. All that’s left is to structure your rebate program to support your team’s efforts and then some.

ACH for most

If a supplier declines to accept card, which often happens due to the interchange fee, your second request should be to enable them for ACH. Most vendors will say yes to this; in fact, they’d prefer it to check. Just be sure you have a realistic appreciation of the true ACH payment operating costs, including enablement and data management, as well as fraud support.

Check for holdouts

While the number is dwindling, there are some suppliers with a ride-or-die mentality who won’t accept anything but checks. For these suppliers, an outsourced payment provider can do a print check from an electronic file, so your team doesn’t have to handle all the paper.

Your payment strategy should include automating the payment workflow. Fintech ePayment providers wrap these disparate workflows into one interface so that all AP has to do is click “pay.” Then their payments will issue to their suppliers in the method they elected to receive. Because these platforms are in the cloud, payments can be approved and scheduled remotely, with visibility for multiple team members.

Heightened fraud protection

Your payment strategy should also include fraud protection. The pandemic, the move to remote work, and challenging economic conditions have created a perfect storm for a rise in all types of crime, including payment fraud. It’s essential to have strong internal controls, especially now that sensitive information is residing in your teams’ homes and on their personal networks. Preventing theft is a key component of cash management.

It used to be that organizations mainly worried about check fraud, and that’s still a problem, but it’s reduced quite a bit thanks to controls such as Positive Pay, Positive Payee, and watermarks on checks. So far, there aren’t similar controls for ACH. As businesses have gravitated towards ACH solutions, such payments have become more of a target for fraudsters. That’s a problem because the funds move faster, making it much harder to recover a fraudulent ACH.

Business Email Compromise (BEC) schemes are the most common type of attack. These involve fraudsters masquerading as suppliers, company executives, or other high-ranking personnel, requesting that funds route to a new, fraudulent bank account. We’re already seeing that the pandemic has provided BEC scammers with new material to convince an overwhelmed AP to comply with these requests.

To protect your team, you need a partner who can support your enablement and fraud protection goals, so your team can stay focused on cash management.

Finance and AP have long intended to go electronic, but the transition has been slow. It’s not just the flip of a switch or the sudden addition of a new payment type. Very few businesses realize how strategic the shift is until after they’ve committed to an update. Many companies that don’t plan accordingly have had to revert to check payments when they realized the actual cost and effort it takes to switch suppliers over. Rather than trying to attack a single pain point, you have to address the whole process from top to bottom.

Now we are going to see an acceleration of this shift with the remote workforce and challenging economic conditions. There is a new imperative, and there is also new technology. Interestingly enough, a lot of the fintechs providing B2B payments technology got their start during the great recession, when the financial system collapsed, and cloud technology was being born. These are now mature companies, ready to “cross the chasm” and transition their partners to 100 percent electronic payments.

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Derek Halpern is the SVP of Sales for Nvoicepay. He has over 20 years of technology sales and leadership experience, including 16 years in the fintech and payments space. Derek’s previous positions include VP of Sales at Billtrust, an AR automation technology company, and Sales Director at TranZero, a payments company. Previously, Derek co-founded a company called ProService Software, which was sold to Solomon Software. Derek became the Western Region Sales Manager for Solomon following the acquisition. Derek earned a BS in Business Management from Pepperdine University.

Josh Cyphers is the Vice President of Product & Strategy for Nvoicepay. For the past 20 years, Josh has managed successful growth for a variety of companies, from start-ups to Fortune 100 companies. Prior to Nvoicepay, Josh was a Senior Manager and Consultant at Microsoft, Vice President of Finance at Visa, and Business Planning and Analysis Manager at Nike. Josh is a lapsed CPA, and has a BS in Economics from Eastern Oregon University.

AR

How to Create an Enduring Workflow for AR

Please note: Vocabulary in the payment automation world varies. While customers (i.e., clients, buyers) and their suppliers (i.e., vendors, beneficiaries, sellers) are both considered customers to payment automation companies like Nvoicepay, this article will use the terms “customer” and “supplier” to distinguish between them.

Imagine having to switch out old railroad tracks while a rusted steam engine thunders across. Adopting modern electronic payments runs about as smoothly for banks.

When you think about how old banks are in the U.S., it’s an understandable plight. They’ve been running on the same tracks since the first bank’s founding. Additional features, like wire payments and credit cards, were added over time as a complement to the old system. But the rise of nimbler financial technology (fintech) companies has lit a fire under them. Now they face the challenge of converting their processes to electronic means without disturbing their clients’ day-to-day business.

In a way, fintechs have it easy. Their very nature makes competing against banks a breeze, primarily because banks were built to last, and fintechs were built to adapt. They can easily shift gears to meet demand and immediate needs. Meanwhile, banks are frequently caught up in bureaucratic processes that make it virtually impossible to react quickly to problems.

Financial and fintech industries feel the contrast most often when tackling payment security—specifically when it comes to cards. Even though check payments incur 25% more fraud instances than card payments, according to the 2019 AFP Payment Fraud and Control Survey, many companies hesitate to make the switch to more electronic means.

Kim Lockett—the Director of Supplier Services at Nvoicepay, a FLEETCOR company—offers a glimpse into why companies are hesitating to shift gears: “Fraud is not a new issue to companies,” she states. “But what we’ve learned is that fear of change overrides the fear of potential fraud loss, even among companies who have already incurred those losses.”

With almost 30 years of experience in payments and financial services, Lockett possesses a holistic perspective on supplier expectations for seamlessly receiving payments, with payment fraud protection listed as one of the highest priorities. She’s heard all the horror stories, from a small business whose checks were stolen out of their mailbox and cashed, to a company whose employee tried to use business deposit information to clear her personal checks.

That’s not to say that errors and fraud don’t occur for card payments as well. But they occur significantly less and are much easier and faster to resolve than check, ACH, and wire payment issues.

What’s the Holdup?

In the last decade, fintech companies have improved the tracks on which many accounts receivable (AR) teams function. From providing lower processing costs for card payments to offering user-friendly portals for reliable payment retrieval, fintechs transform painful AR workflows into a functional process.

Meanwhile, banks have just begun to offer pseudo-solutions that appear to be tech-friendly but still run on old tracks. An excellent example of this is lockbox technology, where banks mitigate the processing of check payments and their data for their larger customers by taking on the work themselves. This sort of offering likely extended the life of check payments. Still, it didn’t eradicate the underlying problem: that even though work has been lifted directly from their customer’s shoulders, someone at the bank still has to process checks and submit data for manual reconciliation. The process is hardly automated, and the advent of payment processing technology has all but made the entire process impractical.

Embracing the Future

Of course, the best way to avoid check issues is to avoid checks. These days, electronic payment methods offer higher levels of security. But if electronic options like virtual card numbers are such a fantastic option, why are so many companies avoiding them?

Lockett states: “In general, I think companies are afraid of handling credit card numbers because they feel there is risk involved.”

It’s not the dangers of check payments, but misconceptions about electronic payments that cause companies to refrain from accepting them. Many AR teams rationalize that they’d rather respond to the inevitable check fraud cases they understand than walk unprepared into the relatively unknown territory of card fraud.

When checks are stolen and cashed, there’s very little that can be done. At the end of the day, someone will be out that money. Other electronic payment types like ACH and wire are significantly safer, but can still experience fraud, especially internal instances, such as when a company’s employee submits their personal bank account information to receive company payments. Whether these issues are reversible is dependent on each unique scenario.

Card payments, particularly the virtual card numbers provided by fintech companies, are typically protected by two-factor authentication. Whether this means that AR is supplied with a login to access secure details or a portion of a card number, the information is much more difficult for bad actors to access, securing the payment process and reducing the risk of fraud.

In the end, not every company will have the capacity to accept card payments, so leaving alternate options open like check and ACH truly boils down to how much individual payment providers value customer service.

Taking Suppliers Along for the Automation Journey

In many cases, banks have rushed to cater to customer’s needs, leaving suppliers in the dust when it comes to follow-through on electronic payments. Despite these efforts to change, most larger banks still follow their old tracks, and their customers and suppliers experience the same lack of customer service they always did.

With over 10 years of support development behind them, fintechs have expanded their offerings to suppliers, catering to their specific needs, whether they require something as simple as customizable file formats or a more significant request like payment aggregation. Fintechs that follow through with supplier support are truly delivering on their promise of offering an end-to-end solution. They are building tracks that support the advanced bullet trains that companies have become.

“Ten years ago, companies were reluctant to add virtual card payments to their list of accepted payment types,” says Lockett. “Education, experience, and word-of-mouth have established virtual card payments as a mainstream and relevant way to conduct business.”

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Alyssa Callahan is the Content Strategist at Nvoicepay, a FLEETCOR company. She has five years of experience in the B2B payment industry, specializing in cross-border B2B payment processes.

trade finance

Industry Advocacy Required to Enable Trade Finance Market Access and Growth

In a whitepaper released last year, the International Chamber of Commerce (ICC) urged the trade finance industry to work together to ensure that regulation does not hinder the availability of trade finance. Olivier Paul, Director, Finance for Development at ICC, explains how a fair regulatory environment across regions is key to the industry’s growth.

In the wake of the financial crisis of 2007, regulation and compliance requirements have had the unintended consequence of negatively impacting trade finance provision. As banks adapt to ever greater compliance and regulatory requirements, they seek to minimize risk by reducing their number of correspondent banking relationships. This phenomenon, known as “de-risking”, especially affects small and medium-sized enterprises (SME) in emerging markets that need financing the most.

Accessing adequate trade finance is already tough for SMEs, who often lack the collateral, documented history of past transactions and knowledge of the financial instruments available to them. This has led to a US$1.5 trillion gap between the demand and supply of trade finance – or gap – as SMEs find themselves most neglected by financiers.

In its report, Banking regulation and the campaign to mitigate the unintended consequences for trade finance, the International Chamber of Commerce (ICC) outlines how some post-crisis banking regulation has unintentionally led to the widening of this trade finance gap. The report argues that industry advocacy is necessary to ensure fairer treatment of trade finance, as several examples already demonstrate.

Unintended Consequences and Successful Advocacy

Despite well-meaning capital and liquidity requirements contributing to the resilience of the financial system, they have also limited banks’ ability to invest in cross-border relationships, leading to concerns relating to the treatment of trade finance instruments across regions.

For example, the Basel Committee on Banking Supervision (BCBS) introduced the third installment of the Basel Accords – a set of international banking regulation recommendations – in 2010. However, the BCBS does not have the authority to enforce its recommendations, leaving national – or supranational – institutions to write the recommendations into law.

What’s more, these recommendations allow significant room for interpretation, allowing each jurisdiction to adapt them accordingly. This results in inconsistencies across jurisdictions, leaving emerging market banks subject to the resulting ambiguity.

In particular, the Net Stable Funding Ratio (NSFR) for financial instruments supporting trade finance caused concern among many industry practitioners. The European Commission and Council, as well as the European Banking Authority, recommended that NSFR have a variable rate of 5%-15% depending on the maturity of the transaction. In many jurisdictions outside the European Union, however, the NSFR rate is either flat – at a maximum level of 5% – or non-existent.

This represented a clear disadvantage, and one affecting the whole market. As such, the industry-led by ICC – advocated for a fairer treatment of NSFR ratios for trade finance. This resulted in a significant reduction in the spectrum of rates which now stand at 5% for a transaction maturity of under six months, 7.5% for a transaction maturity of under a year, and 10% for maturity of over 12 months.

Early Start

To ensure the highest success rate, it is essential that discussions between industry members and regulatory authorities take place at the earliest stages of the decision-making process. With regulatory adoption and implementation processes taking up to a decade in some cases, the industry must work together with regulators and maintain a proactive approach to promoting fair regulatory treatment of trade finance.

The document outlining the finalization of the Basel III framework was published in 2017 but will only be enforced between 2022 and 2027. Action is needed today if the industry’s voice is to be heard and acted on.

Banks have already identified several areas relating to trade finance – such as the treatment of unconditionally cancellable commitments, the minimum durations to calculate risk-weighted assets and the treatment of subsidiaries in large groups – where discussion is needed. Over the next few years, banks and industry bodies will need to engage with these topics, as national regulators translate the finalization package into national legislation.

Next steps

Some 80% of international trade flows involve the recourse to a financial instrument, according to the World Trade Organization. To encourage the use of trade finance worldwide – and ensure the widest market access especially for SMEs – harmonization of regulations will be required.

Much work has already been done to promote the fair treatment of trade finance within banking regulations. However, regulations will not adapt unless all stakeholders voice their concerns. It is up to the entire industry – and ICC, as the largest and most authoritative voice in trade finance – to be at the forefront of this work.