Invigors’ Kieran O’Brien discusses the Critical Success Factors for building out a Captive Finance Business

Kieran O’Brien from Invigors EMEA was invited to be guest speaker and panellist at the recent GE Industrial Finance 2017 Europe Kick Off meeting in Monte Carlo. Kieran spoke of his experiences and lessons learnt on setting up multiple captives across EMEA, including the importance of having a robust captive governance infrastructure in place. He also discussed the pros and cons of utilising financing capabilities through third party finance partners as an alternative to captives’ financing.

After his presentation, there was a panel discussion with GE Capital senior leadership participation. The panel participants along with Kieran were Jim Ambrose – President GE Capital HEF, Jonathan Wainberg, Global Sales Leader GE Capital IF and Boz Plehn, Head of International Capital Markets, GE Capital.

Avoiding the Pitfalls

During the panel discussion, Kieran was asked what are the biggest pitfalls to avoid in the journey to create a new captive. Kieran responded that that it was vital not to underestimate the importance of having a strong cross-functional team with solid executive sponsorship in order to execute the captive buildout. Without these, projects risk poor implementation due to lacking essential skill-sets or input or, at worse failure due to lack of executive backing.

Another requirement was to ensure there is a suite of financial offers available that supports customers’ evolving business models, in particular those that enable the evolution from traditional asset based leasing to service type models. Kieran stressed that it was also important to have a clear understanding of the regulatory landscape. Experience had shown there is a danger of underestimating the opex and operational burden from increasingly demanding regulatory and compliance infrastructures.

Funding Sources – Balance Sheet or Finance Partner?

Recognising that not all countries require the same approach, another question related to how to decide where to provide balance sheet finance and where to adopt an off book only strategy. Also, there was the supplementary issue of how to approach off book business where the captive is not planning on funding through the balance sheet.

Kieran identified a number of critical factors that companies should consider. Firstly, there was the size and complexity of the addressable market within each geography which would influence the approach, especially identifying those markets of insufficient scale to justify a full captive model. Allied to this is the need to assess the overall footprint and relative importance of finance in the customer engagement process, country by country, and the extent to which a finance partner model could address the critical customer engagement question.

As well as demand, supply-side factors can influence the choice of approach. Evaluating the number and quality of finance partners in the region is an important prerequisite, particularly in terms of their risk appetite, product offerings and operational and systems capabilities. It is essential to investigate how flexible these partners are in practice and, in terms of organisational culture, do they have real partnering in their DNA? However, it is also necessary to assess specific regional requirements within each region, such as local specialised finance offerings that only a local finance partner could provide, especially if they are providing regulated products that unregulated captive could not offer.

Potential deal-breakers to establishing a captive are local country regulatory and compliance requirements. Companies need to ask whether it is appropriate for a captive to take on this burden or whether it would be better to have the support of a local finance partner which already has the operational processes and systems in place to address their requirements.

It is therefore vital to undertake a preliminary due diligence exercise in each geography under review in order to evaluate local legal, tax and treasury requirements as this could immediately eliminate the captive option in some countries. Only once these investigations are complete can a detailed business case analysis of captive versus finance partner model be made.

What determines RV Policy?

The final question was more specific and concerned which factors should be considered in determining residual value levels and policy in a captive. Kieran’s view was that there are four main factors which should be taken into account.

Firstly, residual policy will be determined by the strategic objectives and priorities of the captive. Do these involve asset control, customer control, secondary market management, or maximising end of lease earnings?  Secondly RV policy and levels need to reflect internal constraints including risk appetite, staff expertise, systems capabilities and the robustness of control and risk management structures.

They also need to reflect the reality of the market context in which the captive operates. For example, are there vendor finance alternatives available, and how are these priced? Are there third party guarantors and how could these influence the level of RVs? Is the internal position likely to be competitive, for example with behavioural residuals? Finally, captives need to consider whether there is the appetite or competence within the business for taking residual values on third party equipment.

A Critical Enabler of Growth

Kieran’s closing remarks emphasised that captive financing continues to be a critical enabler of the manufacturer’s growth strategy.

He advised the group that they need to prepare for the managed services evolution which will transition captive finance from current well established asset based leasing models through to bundled asset and services models and ultimately to a true service offering.

And he concluded that captives should move to be that differentiator with customers where they become their trusted advisor by managing the manufacturer’s installed base in providing flexible solutions and lifecycle management.

Kieran O’Brien, B.Comm, FCA
Associate – Invigors EMEA