The Greensill Collapse

By Queenie Mok

In early March, Greensill Capital declared insolvency. Only last October, Greensill, which was backed by Softbank’s Vision Fund, was planning an initial public offering that would value its company at US$7 billion. Its senior advisors included former U.K. Prime Minister David Cameron and former Australian Foreign Affairs Minister Julie Bishop. The company’s collapse has been swift, the effects of which could potentially endanger up to 50,000 workers worldwide.

Supply Chain Finance and the Greensill Twist

At its core, Greensill provided supply chain financing. Supply chain finance (or “reverse factoring”) is a spin on a centuries-old way of financing invoices. It is driven by the buyer and is agreed upon with the seller. A supply chain finance arrangement looks something like this:

  1. A supplier provides goods or services and sends its invoices to a buyer. The buyer will approve the invoices and upload them to a supply chain finance program.
  2. The supplier will select some of the invoices on the program. The ones that the supplier chooses will be sent to a financier like Greensill.
  3. The financier will pay the invoice immediately at a small discount according to risk.
  4. The buyer pays back the financier directly at an agreed date.

Because the financier is extending credit to the buyer, the financier assesses the buyer’s credit rating to provide funding. Most banks provide supply chain finance to their large blue-chip company clients, which usually have higher credit ratings and lower financing costs. The benefit of a supply chain finance arrangement is that suppliers can be paid quicker while buyers can improve their working capital. 

Supply chain financing has grown in popularity in recent years due to its accounting treatment. Instead of debt, these loans are deemed to be trade payables or accounts payables on companies’ balance sheets. In March last year, ratings agency S&P announced that supply chain finance can be used to “mask a more fundamental deterioration in a company’s financial health”.

As Greensill Capital grew, it also started to provide “futures accounts receivable” financing. Instead of being backed by invoices, Greensill would use past payments to project the clients’ future receivables and extend credit to sales that had not even occurred. These were essentially unsecured loans. While most large banks would finance these loans through their own deposits, Greensill would package them into securities and sell them to funds controlled by Credit Suisse. 

Greensill’s Modus Operandi: Mortgage-Backed Securities 2.0? 

Greensill’s financing method is reminiscent of what occurred leading up to the Global Financial Crisis, whereby bankers would bundle up housing loans into packages known as ‘mortgage-backed securities’ and sell them off to investors. However, Greensill’s strategy differed slightly from the GFC bankers. Instead of having the packaged securities rated by credit rating agencies, it had some of them insured by companies such as the Australian Insurance Group, Zurich Insurance and Swiss Re. The insurance allowed Greensill to peddle the packages to big investment funds managed by Credit Suisse Asset Management and Switzerland’s GAM. If the companies that made deals with Greensill, to have their suppliers paid early – which included GFG Alliance and Australian telecoms giant Telstra – didn’t pay their invoices on time, the insurers would cover most of the payments. Nevertheless, similar to the incompetence performed by credit rating agencies during the GFC – insurance firms, Credit Suisse and GAM appeared to have not enacted adequate due diligence on Greensill and the companies with which it did business.  

Credit Suisse Missed Many Warnings Before Greensill’s Collapse

Source: Morningstar

Events Leading to Insolvency

Mid last year, Bloomberg reported that the German banking regulator, BaFin, was investigating Greensill Bank, a ninety-three-year-old bank that was bought by Greensill Capital in 2014. They were worried about Greensill Capital’s concentrated exposure to GFG Alliance. GFG Alliance, headed by Sanjeev Gupta, had bought many ageing steelworks around the world. A report by Scope Ratings, a Berlin-based company that specialised in ratings of financial institutions, found that debts to companies related to GFG Alliance made up about two-thirds of loans of Greensill Capital. GFG Alliance had started defaulting on their loans. 

Because of the risks involved, insurance company Tokio Marine decided to stop insuring the loans backed by Greensill Capital. Greensill was not able to find another insurer. Some of these loans had already been sold to Credit Suisse. In March this year, Credit Suisse froze and liquidated the funds that were allocated to Greensill’s loans because of “considerable uncertainties with respect to their accurate valuation”. Without the backing of Credit Suisse, Greensill unravelled quickly. Within days, it declared insolvency. 

The Immediate Aftermath

Credit Suisse has already returned US$3 billion in cash to those who have invested in the Greensill funds and is working to recover the rest. The Swiss bank has now admitted that it lent an additional US$160 million to Greensill’s holding company last year, increasing its total exposure. Credit Suisse has since removed Brian Chin, head of the investment bank and Lara Warner, the group’s chief risk and compliance officer. BaFin has launched criminal proceedings against Greensill Bank for manipulating its balance sheet. Bluestone Resources, a coal-mining company owned by West Virginia Governor Jim Justice, has sued Greensill, alleging that the firm “perpetrated a continuous and profitable fraud” against his company because it was not open about its financial difficulties. Bluestone was one of the companies that received Greensill financing for “futures accounts receivables”. 

What happens next?

While some of Greensill’s clients, such as Airbus, can source its financing elsewhere, there are abundant doubts about its other clients, one of which is GFG Alliance. GFG Alliance’s appeal to the U.K. Government to receive more than £170 million was rejected in late March. GFG Alliance is already facing multiple suits both in the U.K. and Australia to wind up its assets, including OneSteel Manufacturing, which runs the Whyalla steelworks in South Australia and has more than 1,200 employees. The ripple effect of the collapse has yet to reach its peak, despite multiple insurance companies claiming that they had been deceived by Greensill and the accumulating number of casualties ranging from credit holders and employees. However, reminiscent of the GFC aftermath, many expect that regulators will increase their levels of scrutiny and introduce significant changes in this area of financing. 

Sources: Sydney Morning Herald, The Wall Street Journal, The Financial Times, AFR, Bloomberg, The New York Times, ABC

Disclaimer
The authors of this publication are not qualified to provide financial or investment advice and as such the content provided should not be construed in this manner. All information is intended purely for educational purposes and is provided for the personal interest of UNIT members. The opinions expressed within the article do not reflect those of UNIT as an organisation, its partners or its sponsors.