ORGANIZATIONAL STRUCTURE FOR MARKET RISK MANAGEMENT........................7
DEFINITION AND MEANING..............................................................................7 RELATIONSHIP / DEPENDENCIES ON OTHER ORGANIZATIONAL ENTITIES.........7
MASTER DATA.....................................................................................................9 PROCESS 3.1.1.1 3.1.1.2 3.1.1.3 3.1.1.4 3.1.1.5
EXPLANATION (TO-BE)....................................................................................9 SPECIAL ORGANIZATION CONSIDERATION.....................................................12 DESCRIPTION OF IMPROVEMENT....................................................................12 DESCRIPTION OF FUNCTIONAL DEFICIENCIES................................................12 APPROACH TO COVER FUNCTIONAL DEFICIENCIES.........................................12 INTERFACE CONSIDERATIONS........................................................................12
Objectives Along with the process re-engineering and mapping the project team has to manage Organization Change Management. The purpose of Organization Change Management is to ensure that ABC achieves the expected results from its investment in SAP technology in a short span of time. As part of this service, XXX will work closely with ABC to introduce the change process, stress the importance of organizational alignment, and introduce the necessary tools and techniques needed to address issues in the Organization.
XXXXXXXXXXXXX
ABC
Corporate Fund Management
Scope and Approach
Scope The scope for the current Market Risk Analyzer implementation of SAP Corporate Finance Management (CFM) software at ABC can be described as below: 1. Actively monitor and manage market risk 2. Support the framework for evaluation and quantification of Market Risks 3. To support management of risks arising from foreign exchange, interest rate and commodity price exposures
Business Requirements /As-Is
The basic objective of the implementation of Market Risk Analyzer is to ensure that the treasury activities are in line with company objectives. The treasury should manage all market risks as soon as they are identified within the acceptable limits. These exposures include Foreign Currency Risks, Interest rate and commodity price exposures. Similarly the organization is exposed to credit, issuer and settlement risks. These are however handled by SAPs Credit Risk Analyzer, which helps maintain limits for counterparties and calculate exposures to counterparties.
Foreign Currency Risks
ABC is usually exposed to foreign currency risk arising out of the following types of exposures: 1. Import of raw material and stores 2. Import of capital equipments 3. Export of products 4. Foreign Currency Loans (Short term & Long Term) 5. Investments in Foreign operations and new acquisitions 6. Payments to consultants in foreign currency
XXXXXXXXXXXXX
ABC
Corporate Fund Management
Interest Rate Risks:
Broadly ABC is exposed to Interest rate risk arising out of the following types of exposures: 1) Domestic and Foreign Loans (Long & Short Term) 2) Working Capital Borrowing
At present ABC does not have a well defined interest rate risk management policy; it takes all decisions through the Investment committee. Excess liquidity is invested in the Mutual Funds and sometime in Inter Corporate Deposit within the Tata group. It does not invest in money and debt markets. Tools for Managing Interest Rate Risks List of Authorized Instruments for managing Interest Rate Risk: List of authorized instruments: 1) Interest rate swap 2) Constant maturity swap 3) Forward rate agreement Combination of the above instruments will be used only for hedging interest rate liability in foreign currency. As per RBI guidelines the structured products cannot be used to hedge domestic interest rate risk Structured Products include a) Single Barrier Options b) Double Barrier Options c) Knock in / Knock out Options d) DOT e) Range accrual swaps Commodity Risks
XXXXXXXXXXXXX
ABC
Corporate Fund Management
ABC is exposed to commodity price risk both on input raw materials and output finished products. From hedging perspective following input materials are significant: 1) Coal 2) Zinc 3) Ocean freight 4) Steel Coal and Zinc forms a significant portion of cost of producing the finished products. Ocean freight rate, which is the integral part of major raw material cost including coal and limestone also form a major portion of import cost. Instruments used for hedging commodity risk: Coal : Nymex Futures Zinc : Zinc Future of LME Freight: Freight Futures, Forward Freight agreement, Swap Steel: Buy futures, sell futures, buy put option, buy call option
XXXXXXXXXXXXX
Organization Structure The following organizational definitions have been done at ABC .
2.1
Organizational Structure for Market Risk Management
2.1.1 Definition and Meaning The following are the key entities for Market Risk Management: Analysis Structure: The analysis structure is the organizational unit used to analyze and control risk in businesses. The analysis structure is the highest-level organizational and evaluation unit in Risk Analysis Portfolio: An organizational unit that enables financial transactions and positions to be brought together and aggregated position analyses to be undertaken. Portfolios are also used to control and evaluate risk items in risk management. Valuation Areas: Used for position management (example: Operative valuation area and parallel valuation area). Portfolios The key considerations while evaluating a set of portfolios for ABC were: 1. Its amenability to reporting requirements 2. Its help in evaluating returns and carrying out further analysis 3. Its help in tracking each transaction 4. Its scalability for newer areas of operations The proposed structure of portfolios at ABC is given below: A portfolio will be defined for every area of treasury activity. The portfolios will be as below: Newer portfolios can be added if, for example, the company enters into newer areas of operations
2.1.2 Relationship / Dependencies on other organizational entities
Relationship with entities in Financial Accounting
ABC
Corporate Fund Management
Portfolio: A portfolio is created in a company code. The portfolios for ABC , as
mentioned above will be linked to the company code ABC HO Valuation Areas are assigned to company codes in financial accounting
XXXXXXXXXXXXX
ABC
Corporate Fund Management
Master Data Process Explanation (To-be) The creation of master data for Market Risk management would involve creation of the following key Master Data: Characteristics: A characteristic is a value used for reporting. The following characteristics would be used:
Product Type Business Area Business Partner Profit Center Portfolio Trader
Characteristic Hierarchy: The characteristic hierarchy is used for grouping reporting characteristics into various hierarchical groups for reporting purposes. The following Characteristic group* could be used:
* This is only an Indicative structure
XXXXXXXXXXXXX
ABC
Corporate Fund Management
Financial Object: The role of the Financial Object is to link the information required for reporting (Characteristic) with the evaluation/valuation method. Financial objects can be generated for all the transactions. For e.g. financial objects can be created for each fixed deposit, loan, foreign exchange, derivative or security transactions. Risk Hierarchy: In order to achieve a more comprehensive level of control, market risk has to be split up into its component parts. Market risk can be divided into the following risk categories: Interest rate risk Currency risk Commodity risk Every risk category can be further divided into specific partial risks. In the interest area, there can be sub-markets for swaps, bonds, money market transactions, etc., and each one has the corresponding partial risks. Partial risks are generally different for every currency area. Risk factors will form the basis of Risk Hierarchies. Risk factors also represent the price factors for the instruments in the portfolio. Every level of a risk hierarchy is a consolidation level. Risk hierarchies are built by starting with the market risk and working down to the individual risk factors.
XXXXXXXXXXXXX
10
ABC
Corporate Fund Management
The Risk Hierarchy* could be as follows:
* This is just an Indicative Hierarchy
XXXXXXXXXXXXX
11
ABC
Corporate Fund Management
3.1.1.1
Special Organization Consideration
Not applicable in this section
3.1.1.2
Description of Improvement
Not applicable in this section
3.1.1.3
Description of Functional Deficiencies
Not applicable in this section
3.1.1.4
Approach to cover Functional Deficiencies
Not applicable in this section
3.1.1.5
Interface Considerations
Interest rates from the money and capital markets are used to value financial transactions in Risk Analysis. This requires automatic or manual maintenance of interest rate tables in the SAP system. The following rate and price information can be imported to the SAP system: Exchange Rates Securities Prices Reference Interest Rates Indices Commodities Forward rates Volatilities for the Exchange Rates Index Values The analysis can only be as good as the market data that it uses
XXXXXXXXXXXXX
12
ABC
Corporate Fund Management
Reporting Information System The information system of the Market Risk Analyzer would contain analysis functions for Risk Management such as NPV Analysis, Value at Risk Analysis and GAP Analysis NPV Analysis: The following options can be provided for NPV analysis:
Evaluation today based on current market data or scenario data
Evaluation in the future on the basis of forward data generated from
current market data With NPV analysis for a future date, all cash flows arising after the future date are discounted back to it, using the forward data for the future data which is projected from the current market data.
Evaluation in the future based on scenario data
Depiction of the sensitivity of portfolio values or single transactions when
individual market parameters are changed
Value At Risk: The value at risk is the maximum negative value change of a portfolio that based on a certain probability will not be exceeded during the time it takes to secure or liquidate the position
XXXXXXXXXXXXX
13
4.1
Glossary
1. Business Partner: A business partner is a person, group or an organization in which you have a business interest.
Typical business partners include banks or central treasury departments.
2. Business Partner Roles: A marker used to assign functions to your business partner depending on the business
relationship (for example, counterparty, issuer, borrower), and to control field selection for the partner data. A business partner may have more than one role. 3. Correspondence: A communication that can be printed automatically or manually. Correspondence includes:
i. External correspondence (confirmation letter)
ii. Internal correspondence (dealing slip) related to financial transactions. 4. House Bank:
A business partner that represents a bank through which you can process your own internal
transactions. 5. Key date valuation: Key date valuation is the valuation of transactions or positions for accounting purposes at the
market value on a specific key date. Depending on which valuation principle is used, key date valuation includes creating or reversing provisions, posting write-ups and write-downs as well as posting unrealized gains and losses. 6. Master Agreement: This refers to the arrangements and conditions that are applied to individual transactions. Some
of the criteria of a master agreement are:
i. Permitted company codes ii. Term
ABC
Corporate Fund Management
iii. Permitted business partners
iv. Permitted transaction types and the minimum and maximum transaction terms v. Permitted currencies, including minimum amounts, and the total transaction volume in the respective currency. 7. Standing instructions: Standing instructions are general agreements made with a business partner for processing
transactions of the same type. They include transaction authorizations, payment details for incoming and outgoing payments and correspondence with a business partner. The standing instructions are proposed as default values when you enter transactions in the system. 8. Valuation Area: In the financial subledger you can set up different valuation areas in order to value your financial
transactions according to different accounting regulations. Example: Valuation area 1 as per Indian rules, Valuation area 2 as per US GAAP.
