4 Min Read | May 13, 2021
Around the first week of March, the news of Greenhill Capital being on the brink of collapse came to light after the company filed for insolvency. As mentioned in the filed insolvency report, the company lost the insurance cover for its debt.
The question is what happened?
The Greensill Collapse scandal is quite complex but not to worry, we have broken it down for your understanding.
So, hop on and begin with the reading!
Founded in the year 2011 by Lex Greensill, Greensill Capital is a financial services company operating in 2 countries: Australia and United Kingdom.
The main focus of the company has always been supply-chain financing but in the past few years, Greensill started to offer traditional banking services through Greensill Bank, one of its German subsidiary.
Dear readers, to understand the Greensill crisis, it is important to grasp the working of supply chain financing. So, continue with the reading!
Also known as reverse factoring, in supply chain financing the suppliers (of any product) receive early payment for their invoices. The process of the same is mentioned as follows:
In a conventional seller-buyer setup, the buyer purchases the products or services from the concerned supplier.
The invoice is issued to the buyer immediately but the payment is done after a specified number of days ( it can range from 30 days to 60 or 90 days).
But, many-a-times, the seller needs funds to fulfil several expenses. On the other hand, the buyer also tries to extend the tenure of payment so that he/she can use the fund for other purposes.
In a situation like this, the concept of supply-chain financing comes handy and a financial institution comes into the picture. This financial institution can be called a supply-chain financing agency and plays the most important role in the entire process.
Now, the seller gives the invoices to the supply-chain agency at a discounted price and he/she gets the owed money.
Additionally, the supply-chain agency extends the payment period for the buyer so that he/she can use the money for other purposes.
Later, when the buyer pays the required amount to the supply-chain finance agency instead of the supplier and the agency gets some profit margin in the process.
This way neither the buyer nor the seller is at any disadvantage and the supply-chain agency (any financial institution) also gets to gain some profit
Every party involved is happy!
Now that you know the working of supply-chain financing, let us move to the next section and Greensill collapse story.
The London-headquartered firm Greensill Capital has been one of the biggest players in the supply-chain finance industry helping companies to borrow capital. But, currently, it is in severe financial distress and Lex Greensill’s fortune is at risk!
The story of the scandal revolves around Greensill Capital and its riskier clients.
The following process of how Greensill carried out supply-chain financing would help you to see where things went wrong!
Greensill Capital used to provide supply-chain financing service to firms that became its clients. Often those client firms (buyers) had to make payments to their suppliers for all kind of goods or services they would buy from them. Once the goods were supplied to the client firms they issued an invoice for the work done. This is the step where Greensill Capital stepped in.
It used to buy those invoices from the suppliers but at a discounted price. This also implies that the suppliers would get their money then and there from Greensill. Not only this, the client firms (buyers) got time to arrange the full amount which they needed to pay to Greensill at a later date. Finally, Greensill used to gain some margin profit in the entire financing process.
So, Greensill held many invoices bought from various suppliers (bought at discounted prices) and it expected payment in full amounts at later dates by the client firms Meanwhile, it used to sell those collective invoices to third parties such as Credit Suisse Group as ‘securitized loans.’ Further, those third parties used to issue those invoices to their investors. Finally, the entire complex process of financing needed an insurance cover, right?
Therefore, there was the involvement of an insurance company to overlook this entire thing.
For those who are unaware, let me tell you that the supply-chain financing sector has formed a competitive market in today’s time and the margins can below. As a result, companies enable supply-chain financing services to deal with riskier clients so that they can churn out more margin. Now, riskier clients usually lack financial stability and a major downturn in the economy often hits them hard.
And, this is what Greensill did! It got involved with some riskier clients.
Things were going fine but then came the pandemic in 2020 that shook the entire world economy and hit the businesses hard. As a result, many of the Greensill clients started to default and failed to pay the due money. Because many client firms started to declare their default Greensill came under the radar and was investigated last year. During the investigation, it was found that apart from indulging with riskier clients, the firms also used false accounting methods.
In the investigation carried out against Greensill last year, it was found that GFC Alliance owned by Sanjeev Gupta was its main client and that it owed a total of $4 billion to Greensill. This implies, Greensill had poured in a lot of money while carrying out supply chain financing with GFC Alliance.
The amount of $4 billion going to just one client is undoubtedly huge!
After this fact came to light, the insurance company got alarmed and stated that Greensill made a big mistake by putting all its eggs in one basket
When these riskier clients failed to pay Greensill, it knocked on the doors of the insurance company. But, the insurance company took a step back from helping as it believed Greensill’s selection of riskier clients was not right in the first place. Not only this, in February 2021, it also failed to renew its insurance covers. As a result, the insurance company made it clear to Greensill that it would not help it and that it can look out for another insurer.
Once the insurance company refused to help Greensill, and everything came to light, the third parties clients like Credit Suisse who had bought the invoices from it, started to panic. Finally, they stepped back from buying any more securitized loans from Greensill and Sanjeev Gupta also refused to pay the money he owed!
Well, Greensill Capital now finds itself into a myriad of losses!
It lost its insurance cover, its biggest client (GFC Alliance), Credit Suisse as its third party client, all lots of money owed to it and above all it lost its value in the competitive supply-chain finance market.
Hence, it had to resort to the final option of filing for insolvency!
Hope you liked the blog on the rise and fall of Greensill Capital. For more such interesting content, keep visiting our Convey platform.
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