Seeking Liquidity within the Enterprise
Helen Sanders, Editor
I’m sure most of us are absolutely sick of the terms ‘credit crunch’ or ‘credit crisis’, since they preface virtually ever financial article, so I will do my very best to avoid them. While we may be slightly more cautious than this time last year, treasurers can minimise the effects of external market turmoil and uncertainty by looking internally for forgotten or trapped liquidity - I’m sure I’m not the only one to try and find a few forgotten coins hidden down the back of the sofa or on my husband’s bedside table when I need to pay the window cleaner, and the situation is very similar for many corporations. In this article, we speak to leading experts from banks and vendors on their observations of companies seeking to enhance their liquidity.
Treasurers can minise the effects of external market turmoil and uncertainty by looking internally for forgotten or trapped liquidity.
Elyse Weiner, Head of Liquidity and Working Capital at Citi summarises the importance of liquidity management:
“A primary concern for any corporate treasurer is that s/he maintains sufficient working capital to sustain business operations; therefore, access to liquidity where and when it is needed is a key consideration. Recent market events, precipitated by subprime mortgage exposures, have contributed to a contraction of the credit markets. As a result, external sources of funding have either dried up or become more expensive. For example, as events unfolded during the summer, issuers could not find takers for commercial paper and companies had to utilise their bank backstop facilities for short-term financing.”
So what does this mean in practise? How do companies find their coins behind the cushions? Phillip Lindow, Head, Global Treasury and Investment Management, Transaction Banking, ABN AMRO explains:
“Corporates today have a stronger focus on mobilising trapped cash than they did a year ago. We see two important trends: firstly, companies are focusing on liquidity at a global rather than regional level; secondly, they are aiming to increase the visibility, automation and control over their cash without increasing headcount.”
Kevin Grant, Chief Executive Officer, IT/2 Treasury Solutions emphasises that:
“Our clients and prospects were showing heightened levels of interest in working capital optimisation before the present focus on liquidity became headline news. This concern extends to both net borrowed and cash-rich organisations, and is especially clear in the drive to locate hidden pools of liquidity throughout global enterprises. Clearly, treasury best practice includes the utilisation of all internal sources of cash, and this can be a demanding exercise for companies with substantial business activities in countries where banks do not offer SWIFT or other international electronic balance reporting capabilities.”
There are a number of implications of mobilising cash which can be divided into three broad themes: Visibility, Accessibility and Forecasting.
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Visibility
Firstly, you can’t access cash that you don’t know about: Elyse Weiner, Citi,
“Another response to the recent external market issues is an increased focus on compliance, ensuring the safety and security of principal and the need for transparent, real-time information. Treasurers are having to address questions such as:
- Are operating companies complying with corporate investment policy?
- Have I optimised my investment return and minimised my borrowing cost?
- How do I best secure my cash?”
While logically it makes sense for companies to try to centralise their treasury activities as far as possible, so that there is central visibility and control over investment, debt, FX and cash management activities, as well as creating economies of scale, this is not always easy. According to the most recent Treasurers’ BenchmarkTM Report (November 2007), although many large corporations have achieved high degrees of centralisation for many of their financial activities, cash management, together with payables and receivables, remains a challenge (fig 1).
Banking information, either through banks’ proprietary systems or through a non-proprietary gateway such as SWIFT, integrated with a treasury management system, is vital to pull together, reconcile and provide visibility over the cash position across the company.
Accessibility
Having achieved visibility over cashflow, the next step is to use it as effectively as possible. Cash pooling by currency and/or within region is commonplace amongst treasurers, but Phillip Lindow, ABN AMRO explains how cross-currency structures are now becoming increasingly popular:
“The level of interest amongst our clients and prospects in cross-currency structures has increased by around 300%. Companies are not only looking at their primary currencies, they are thinking about their smaller currency holdings as well. This is partly due to regulatory pressures such as Sarbanes-Oxley but they also need the cash.”
Elyse Weiner, Citi concurs:
“Companies are definitely expanding the scope of cash and liquidity management structures from domestic to regional to global. Where they exist, cash subpools located in different regions are being combined into a single cash pool under the purview of a global treasury center. Firms are not only including the major global currencies in their structures, but considering ways to incorporate minor currency positions as well. Pre-existing structures are being reviewed and overhauled to take advantage of changing regulation, better technology, and global banking tools”. [[[PAGE]]]
These structures can extend across regions, allowing cash to be invested from a single pool and/or borrowing minimised. Opportunities in this area not only incorporate traditional markets but also increasingly in regulated markets. As Phillip Lindow explains,
Cash optimisation has become more sophisticated over the past two years and there are innovative methods for doing so. For example, in regulated economies, such as China, although notional pooling is not possible, there are still ways of aggregating the value of liquidity and using currencies in which a company is long to subsidise costs in another part of the business.”
Treasury best practice includes the utilisation of all internal sources of cash.
With more efficient cash pooling, treasurers can minimise their borrowings and seek to achieve better returns on their short-term investments, increasingly through the use of instruments such as money market funds where the security and liquidity of cashflow is also accompanied by competitive yields. Increasingly, instruments such as money market funds are becoming integrated into banks’ cash management portals, as well as being able to transact directly from the treasury management system to create an integrated approach to short-term cashflow and liquidity management. The Special Feature on the evolution of money market funds in this edition of TMI covers this more fully.
Treasurers need to look beyond their cash balances, however, and into their working capital management. Credit and collections, in particular is a vital area on which to focus: receivables represent the lifeblood of a company and without having confidence firstly that an amount will be received, and when that is likely to be, it is impossible to make strategic cash management decisions. As C.J. Wimley, Chief Operating Officer, SunGard AvantGard Receivables outlines:
“The largest source of funds for many corporations, particularly operating in the B2B space, is trade receivables. To manage their liquidity effectively, companies need the right processes and controls to achieve predictable cashflow and therefore more accurate forecasting. One of the outcomes of the right processes and predictability over cashflow is the ability to buy credit insurance at a lower cost which also helps improve liquidity.
Managing collections effectively also helps to reduce your credit exposures and limit the P&L impact of bad debt by reducing reserves.”
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Caroline Karwowska, Research Analyst for the Treasurers’ Benchmark emphasises:
“Although collections have not been a primary consideration for the majority of treasurers until recently, the trend is moving quickly with 17% of participants in the Treasurers’ Benchmark identifying collections as a strategic priority for the coming year. We have a lot of interest from treasurers who are keen to share experiences on how they are tackling collections.”
C.J Wimley, SunGard concurs with these findings:
“Senior finance professionals are taking an increasing interest in credit and trade receivables and are asking questions about credit they give to customers and long past dues. Those with Sarbanes-Oxley responsibilities are drilling down into the detail balances and starting to channel resources into the area of credit and collections. One of the issues is that collections are often not centralised, which makes it difficult to achieve global visibility and to provide a cohesive service to global customers. Increasingly, we are seeing more shared service centres for collections with the availability of enterprise-wide receivables solutions. These solutions help to achieve cost savings whilst maintaining excellence in financial processes - any slackening off on the effectiveness of collections processes is potentially disastrous as the downside is simply too great.”
Forecasting
Achieving predictability of collections is a vital element in an effective forecast and lack of focus on receivables is one of the primary reasons that corporations find it so difficult to perform effective cashflow forecasting. There are many reasons to focus on the elements which contribute to cashflow forecasting, which we will not go into in detail in this article, but a primary driver is to reduce the cost of borrowing by balancing payables with receivables and timing investment maturities with major outflows. While the lack of suitable technology is a challenge experienced by some companies, it is not insurmountable, but the greater issue is the quality of information available from around the group to feed into the forecasting process. Optimising collections processes, controls and information is, for many companies, significant in achieving improvements in this area.
Checklist for Internal Liquidity Optimisation
So what are the key factors when seeking to optimise internal liquidity management?
- Visibility over global cash positions in all currencies, using either banking portals or increasingly a non-proprietary portal such as SWIFT.
- Ability to control global cash positions in all currencies, such as through cross-currency cash pooling structure.
- If a centralised treasury environment is not possible in the short term, even a basic in-house banking structure for internal debt and investment management can bring significant and rapid benefits without substantial organisational change.
- Central treasury and working capital management systems environment, both for centralised and decentralised cash management operations.
- Consistent and well-controlled processes in receivables management with visibility over global collections.
- Strong cashflow forecasting mechanism, at least in the short to medium term (e.g. 3 months) to balance payables and receivables more effectively.
As companies' global presence expands, so too do the challenges of preventing leakage and trapping of financial resources.
As I mention in my ‘Letter’ in this edition of TMI, the time for wasting or ignoring the resources we have (of all sorts) is over - if indeed, there was ever a time where this was appropriate. As companies’ global presence expands, so too do the challenges of preventing leakage and trapping of financial resources. Providing global banking services to match companies’ international presence and address these challenges is not easy, particularly where banks have grown through acquisition and working with affiliates, so products and services may not be as consistent internationally as treasurers would like, exacerbated further by regulatory challenges in different regions. However, global services are becoming more readily available from which corporations can gain significant benefits. Another important element in optimising internal liquidity is the use of appropriate technology solutions, either as part of a centralised financial operation or to provide a consistent framework and global visibility over distributed functions such as payables or receivables. Treasury and finance professionals may not find it easy to justify budgets for significant systems implementations but the return on investment can be substantial and rapid.