Trafigura is one of the world’s leading independent commodity trading and logistics houses. At the heart of the global economy, Laurent Christophe, Head of Corporate Finance of Trafigura, shares with Redbridge the details of how his company is addressing and seizing financial opportunities in the current environment and what he envisions in the future.
– Can you briefly present your organization?
– Trafigura is an independent commodity trading and logistics company, specializing in oil products, minerals and ores. We extract, store, blend and deliver our products to industries throughout the world. If Trafigura had its company headquarters in Switzerland1, it would be the third-largest Swiss company in terms of revenue, at $130 billion in 2017.
Within the group, the finance team’s mission is to finance a balance sheet of approximately $50 billion, composed of fixed assets (infrastructure, ports and storage terminals located in strategic areas), short-term receivables related to trading activities (between 30 and 60 days for oil products and between 60 and 90 days for metals) and inventories. To provide financing for the trading teams, manage risks, or invest long-term in infrastructure, the finance department employs 150 people throughout the world.
Our objective is to provide a competitive advantage to Trafigura through access to diverse and varied sources of capital. Every day, we strive to build a resilient financing model that is able to face any commercial, geopolitical and economic circumstances.
The roadmap of Trafigura’s founders is simple: have zero tolerance for risk, identify the risks and implement systems to manage them. The finance function is vital for the activity of our company – it is not relegated to the back office. At Trafigura, the finance teams have final review of, and can exercise their veto on, any trading transaction.
– How do you manage your banking relationships?
– We work with more than 120 banks throughout the world and look to diversify our risk in an environment marked by the recent withdrawal of several international trade finance establishments. We seek complementarity among our different banking partners. Our pool is composed of both global banks offering a broad range of services, and niche establishments that are well placed to understand the risks related to a specific transaction or specific geographical area.
To continue expanding our financing activity and allocate our banking business with greater precision, Trafigura does what many banks do themselves – measure the profitability of each relationship. Because each dollar allocated does not have the same profitability according to the bank product in question, we have started evaluating banking relationships based on the profitability related to each product. For that, we call on the specialists at Redbridge, who have developed a model used as a common denominator for evaluating all of our banks.
The bank-company relationship has changed in recent years. It is no longer founded exclusively on criteria of profitability or credit risk. The compliance dimension has taken on greater importance, with the development of regulatory client knowledge requirements (KYC), and this demand for increased transparency has led us to create a dedicated KYC team. For example, we recently finalized a syndicated bank loan facility with 52 establishments, and we were able to count on this team to provide our partners with all the necessary documents and guarantees on the traceability of money flows that they need in order to work with us. This transparency enables Trafigura to work with establishments that more modest-sized traders would not necessarily be able to access.
– Is this argument for transparency also valid for investor relations?
– Absolutely! Trafigura issues regularly, but not frequently, on the bond market. Our first issue was in 2010 on an unlisted segment of the Frankfurt securities exchange. It quickly became clear that it was vital to have a transparent policy if we wanted to access a group of investors around the world. We were also able, in 2013, to issue perpetual bonds and thus access different segments of the capital markets in the form of senior or subordinated debt denominated in different currencies.
Since 2013, Trafigura has been committed to publishing its financial statements. The group also joined the Extractive Industry Transparency Initiative launched by former UK Prime Minister Tony Blair, which promotes the informing of governmental entities about payments in order to prevent corruption. Our transparency policy enables us to engage in dialog with non-governmental organizations, governments and regulators that are shaping the commodities trading sector.
We maintain a dialog with banking regulatory authorities so that the specificities of our sector are better understood. We cannot envision going back on this level of transparency as it would be counterproductive. It is much more desirable for the commodity trading sector itself to be actively committed to increased transparency rather than struggling against transparency. At Trafigura, we are positioning ourselves as the lead climber on this difficult route. Allowing regulators to take the lead would risk letting them dictate their terms, and this could lead to a number of consequences. We are therefore trying to promote transparency in order to avoid taking an adverse regulatory track, whether that be through a lack of understanding or an erroneous perception of our business.
– How does Trafigura provide information on its risk profile?
– We talk with banks’ credit teams to optimize the internal rating of our partners. The trade finance specialists use good models for rating and our main banks place us in the investment-grade category. Trafigura does not have a public rating, and we are not looking for one as the agencies have demonstrated their limits in terms of basic understanding of our sector, as has been seen with certain recent changes in rating. We do not wish to introduce volatility to our rating as that would be dangerous for a company such as ours, which is financed mainly on the banking market and manages its balance sheet with a long-term outlook.
Unlike for banks specializing in the commodities sector, the rating agencies have not developed any model that is truly adapted to the self-liquidating nature of our balance sheet. By deducting inventories from our debt and making certain specific adjustments, our corporate debt is USD 4 billion. We thus help institutional investors better understand the reality of the balance sheet of a commodity trader. That requires a lot of teaching and investment of time in our investor relations, but we have noticed a clear improvement in the understanding of our balance sheet in recent years. This is very encouraging.
– How has your financial strategy changed since the creation of your group?
– 25 years ago, trade finance instruments were our only source of financing. Today, Trafigura has USD 51 billion in financing, including USD 38 billion in trade finance and related instruments. Our financing policy seeks to back the duration of our financial commitments with those of the assets (long or short term) that they finance. Our syndicated bank facilities (RCFs) have a maximum maturity of three years because the prudential processing imposed on banks beyond that maturity makes margins unattractive and banking liquidity is scarce. This is why we have invested in the bond market, which accounts for 7% of our financing and enables us to finance our portfolio of long-term assets, which is mainly composed of industrial and infrastructure goods.
In 2004 the group launched a program to securitize trade receivables. To date, it has never recorded any default or loss. Trade finance instruments remain an attractive product for banks in the context of Basel III.
To continue accessing the liquidity we need to grow our activities, we’re thinking about new products. Our borrowing bases have been developed for our metals and oil trading activities, enabling us to substantially increase access to financing. Founded on the principle of syndicating bilateral secured credit lines, this enables banks that do not necessarily have the operational resources to process trade finance transactions or take on the risk of certain transactions to take part in the financing of our trading activities. With this principle in mind, we have opened participation in the financing of our trading activities to all banking partners, regardless of their size or expertise in the commodities sector.
The formula, however, currently has less wind in its sails due to the growing regulatory pressure on banks concerning collateral perfection. Regulatory provisions require perfect collateral to optimize regulatory capital. At the same time, agencies are facing increased responsibilities concerning KYC regulations and various other regulatory obligations.
– What conclusions can you draw from recent and ongoing regulatory changes?
– We must be a force for proposals and innovation in the domain of financing. This is vital if we are to keep our place as a leader in our sector. We have therefore developed a number of custom tools for accessing the ABS market to enable us to diversify our financing sources and protect us from depletion of our bank lines. Our ambition today is to finance part of our inventories without relying on Trafigura, via a dedicated entity built to survive the possibility of our group’s insolvency. Many different questions arise in response to this approach and include the management of price risk, liquidity risk and operational risk in the event of the insolvency of Trafigura.
We have therefore developed a product that represents a synthesis between the world of trade finance and that of fixed income, where liquidity is more abundant. It took us two years to design the solution and find banks that would help us with this new product. In the beginning we faced a lot of skepticism from the banks, but we finally found six partners who contributed USD 500 million to this inventory securitization. Not everybody has had the patience or the energy needed for this long, complex path. Our medium-term objective is to obtain a rating for this platform, in harmony with the new regulatory standards, and then offer it to ABS investors. As is the case for our existing program of securitizing trade receivables, obtaining a high rating (single “A range”) for this inventory securitization platform would enable us to benefit from very attractive financing costs and increased access to specialist institutional investors. But it takes a long time to convince agencies to change their approach and not assign us an inappropriate rating. We have, however, demonstrated our patience and are fully aware of the challenges we face.
– What are your thoughts on the future of trade finance?
– Transactional financing requires a lot of manual intervention. Banks have invested in digitalization but still in no significant manner for this type of product. There are several examples of development in progress but they’re still in the draft or pilot phases. We think that enormous productivity gains could be made from a product that would improve our operating risk profile by tracing and securing cash flows so that, for example, a drop of Iranian oil does not contaminate a whole tank in Dubai. Trafigura is conducting a pilot program with IBM and Natixis in the United States on the use of blockchain technology for small transactions. In the medium term, the difficulty is to bring all players in the sector together at the same table, whether they be banks or our competitors, in order to find out who is going to finance the costs of development and distribute the profits from it.
Beyond this initiative, our investments in technology represent 25% of our operating costs. Trafigura has also put in place a unit called the Strategic Research Group, which is in charge of identifying the trends that could disrupt our sector. We have launched a growth capital fund whose mission is to finance, in partnership with the universities of Cambridge, MIT and Stanford, projects in new technologies identified for their ability to destabilize our sector. The success of a trading company comes from its capacity to reinvent itself continuously and imagine the unimaginable.
Author : Emmanuel Léchère
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Comodity Trading Firms: Finance Perspectives
Commodity trading firms face a large number of risks that could jeopardize a patiently fostered business
Given the multitude of industry specific challenges at present for commodity trading firms, Redbridge’s consulting team believes in sharing its thoughts on a wide range of topics of interest through a publication designed especially for this select audience.
In this publication
- Trading firms and banks: who’s afraid of whom?
- What’s driving the risk appetite of your (potential) financing banks?
- Why borrowing bases are valuable opportunities to consider
- The alternative represented by trade finance funds
- How to achieve a consolidated vision of all the trades processed at each moment in time
And also, a conversation with
- Louis Dreyfus Commodities