Greensill Capital: A Story of Debt Destroying Debt?

 

Greensill Capital (“Greensill”) provided payment services including “factoring” and “supply chain financing”. The company projected itself as a “fintech” – there was neither a fin nor a tech here!

Supply chain financing (or “reverse-factoring”) solves a common payment problem. Firms supply goods and services to a customer and issue an invoice for payment. But customer may want a delay in payment for reasons of cash flow. That’s where a financial institution steps in to pay the supplier sooner on customer’s behalf and then secures a discount for a fee. Customer will then settle with the finance provider say, in 4-5 months. On paper everyone wins and there are no risks.

But that’s textbook. Not quite true in the real world. Here is where creative accounting comes in. Creative accounting has blossomed with the fair value revolution – a more market-based approach. This approach to accounting actually creates scope for discretion, subjectivity and speculation. It actually makes it easier for firms to “recognise” profits than to generate actual cashflows that support them. And this is where supply chain financing can be misused.

The gap between cashflow and profit was what caused Carillion, a construction group in the U.K., to collapse in 2018. It had bank debts of £148m in 2016 but supply chain financing liability of £498m. That made Carillion look much healthier than it should. If you can move income and costs in time and space based on projections, then your economic fortunes could always be made or lost.

Coming back to Greensill, as it pushed forward on growth, collateral became speculative. It would lend against transactions not occurred and may never occur with companies that had never done business with as its clients.

The Greensill model was unsustainable because at some point in the future debts need to be settled like a “Bernie Madoff” scam.

At the centre of all this, is Lex Greensill, an Australian farmer turned banker. He founded Greensill Capital in London in 2011. He turned supply chain financing into an “art” by turning invoices into short-term assets and placed them into funds that investors could buy. And he sold them through Credit Suisse and GAM – a Swiss management firm. The money from investors helped to pay back suppliers. It had echoes of asset securitization. Then he helped David Cameron in 2012 to set-up a supply chain finance program. Even Softbank was an investor.

The whole thing unravelled this year when Greensill could not get Tokio Marine to continue to extend two policies that were underwriting Greensill’s clients – buyers in the supply chain. With no insurer to replace, Credit Suisse pulled the plug on the Greensill funds of USD 10 billion. And the whole “pack of cards” collapsed.

What does it take? Creative accounting; an entrepreneur with flair; perceived opportunity to fill a finance “gap”; “investors” convinced of infinite growth; and, insurers unwittingly or otherwise support the funding scam.

 It takes all that, and “hatched” brilliantly by someone with drive and ambition!

 

Reference:

1.     Greensill Capital: The Collapse of a Company Built on Debt, 21 April 2021, New York Times

2.     Adam Leaver, What did Greensill Capital actually do? 15 April 2021, The Guardian