The overall purpose of cash management is to ensure that the organisation has the cash it needs, at the right place, and at the right time. This is arguably the single most important activity of corporate treasury, with its direct relationship to the efficient operation of the business.
Confirming this opinion, an impressive 79% of respondents to IT2’s most recent survey of corporate treasuries reported that increasing the visibility and mobility of cash was a priority initiative for their companies. This result indicates that, almost three years on from the financial crisis, cash management remains a major priority in treasury operations. Optimisation of the cash management process ensures that cash is efficiently used to fund the organisation’s commercial activities.
This article will examine the three pillars of best practice cash and liquidity management, which together facilitate the end-to-end visibility of corporate cash flows:
- Achieving global visibility of the cash position.
- Optimising the cash forecasting process.
- Enabling the necessary cash mobility, for funding and cash investment.
Figure 1 summarises the workflow relationships between the three pillars.
Global Visibility of the Cash Position
Achieving the best practice treasury management goal of global cash visibility might seem like a deceptively simple objective. In practice, the level of visibility of cash in most organisations falls short: IT2’s survey respondents showed an average result of 78% of the organisation’s total cash being visible; the responding group projected that this would rise to 91% within three years.
The technical foundation of generating an organisation’s daily cash position requires the uploading and updating of all the bank account balance reports and statements. Again, the requirement sounds simple; in practice, large multinational corporations – especially those with decentralised corporate organisations – are often served by complex global webs of bank relationships and bank accounts, without a mechanism for achieving timely central visibility. Lacking such visibility, there is no chance to use cash efficiently, and so the organisation is likely to use its borrowing lines and facilities in an inefficient way, diminishing its creditworthiness, and incurring unnecessary bank interest and transactional costs.
Deriving the cash position from the enterprise’s bank account balances is a function of the bank reporting solutions in use; the technical demands of this exercise are, essentially, directly proportional to the complexity of the bank relationship network. The technical means of uploading balance information include accessing bank FTP sites, direct connection, SWIFT and use of bank workstations. The complexities of multibank reporting are sometimes overcome via SWIFT, or by use of an overlay bank or specialist third party service such as FIDES; these approaches effectively outsource the collection process, including the management of multiple communication channels and message formats. There is a continuing tendency for corporates to adopt SWIFT for bank reporting, taking advantage of the uniformity and robustness of the solution; this solution is not without its technical and commercial challenges, as treasurers must decide which SWIFT offering best suits their requirements and budget, and also how to organise interconnection. Corporate SWIFT users usually take the services of a specialist SWIFT service bureau, such as BankServ, BBP, SMA and Synergy, to outsource their inter-connection with SWIFT. It should be pointed out that not all banks are SWIFT members, and some may not report balances electronically, so that the daily bank balance management exercise for some corporates will include some manual or fax integration to complete the cash positioning process.
The operating policy of many treasury departments requires that some or all of the bank account balances used to construct the daily cash position have been successfully validated through a reconciliation process. In such cases, this requires that the bank-posted transactions must be uploaded and reconciled against the entries projected in the corporate cash book, with the resolution of any discrepancies. Reconciliation is usually performed against predefined rules, and is a key function for treasury technology in the construction of a dependable cash position – which is the key to accurate cash visibility, and hence to the efficient management of cash.
A new dimension in cash visibility and control is offered through electronic bank account management (eBAM), which may be defined as the provision of controlled web-based workflow and electronic messaging related to the opening, maintenance and closing of bank accounts. eBAM is based on a SWIFT initiative, which uses a series of XML ISO 20022 messages that enable corporates to send bank account opening, maintenance and closing messages very quickly and efficiently. eBAM provides a third key element in a corporate’s bank account management process, in combination with maintaining a central register of the organisation’s bank account information, and also with the necessary communications with the organisation’s network of business units, where the owners and operators of many of the accounts reside. Effective bank account administration with eBAM enhances the quality and control of bank account management, regardless of whether the ultimate responsibility is centralised or decentralised; it therefore enhances the quality of cash visibility.
Cash visibility accordingly requires the combination of robust bank account balance retrieval and consolidation with effective bank account management. There is still some distance to travel to achieve visibility levels in excess of 90%, so it seems that this area will remain a primary treasury development focus for some time ahead.
Optimising the Cash Forecasting Process
A range of different cash forecasting methodologies is found among the global corporate treasury community. Some are based on building the picture from the ground up using business units’ commercial forecasts; others work top-down based on budgeted cash flow; others use statistical modelling methods.
This is based on commercial forecasts, which must be periodically submitted and updated by the organisation’s business units. This method has the benefit of direct linkage with the entities that are responsible for the flows that are being projected; but it has comparatively heavy data collection and validation components.
The enhancement of cash flow forecasting based on the ground-up approach centres on improving the accuracy and timeliness of the forecasts received from the company’s business units. The requirement is particularly demanding in diverse global organisations, where the forecasting entities may be geographically and culturally remote from the central treasury – which is the end user of the forecasts. If the individuals or teams who submit the forecasts are not aware of or involved in the cash management, funding and risk management decisions that are made on the analysis of the forecasted information, they may perhaps not make best efforts to ensure the accuracy or timeliness of their submissions. The situation may be complicated if forecasts are submitted using a range of technologies, such as a variety of spreadsheets and electronic media, including email, fax or telephone conversation, compounding the issues of accuracy and timeliness, and adding to the technical and process requirements of assembling the forecast.
Web-based solutions provide an optimal approach for efficient forecast collection; this approach enables business units to submit their data at a convenient time, using intuitive, customised forecast templates that are easy to use, and which hence encourage accuracy. The automation of the process enables the information to be collected and analysed centrally, with the facilities to send prompting messages to late reporters, and to analyse forecast versus actual performance as an aid to measuring and improving forecast quality.
The detailed construction of a complete cash forecast involves the integration of information from a variety of sources, in addition to the management of the longer-term forecasts. The potential sources of this information include cash flows from opening and maturing treasury transactions (foreign exchange (FX), money and capital markets, derivatives and commodity transactions), and committed accounts payable (A/P) and accounts receivable (A/R) movements (from enterprise resource planning (ERP) and accounting systems). The committed flows may be applied to the bank based cash position. The details of implementation, including the forecast time horizon, will vary from company to company, depending on the structure of the business.
Top-down forecasting uses the budget as the starting point, and allocates the projected flows across the business structure over the defined duration of the forecast. It relies on the retention of the critical data for the required time-span, combined with adjustments based on known seasonal fluctuations and related variable factors. Such methods do require the facility to build in systematic changes that invalidate the relevance of some part of the historical model.
Statistical modelling involves cash prediction based one or more customisable forecast models, which may be changed and remodelled. The models may utilise a user-defined growth pattern, or moving average, or linear regression, refined with the facility to eliminate extreme cases or outliers.
Statistical modelling may be used in isolation, or in combination with other forecasting methods, in which case its function is to validate the results of forecasts that have been derived by other means. For example, a subsidiary may have forecast a US$10m receivable in April, but the historical trend indicates that US$8m is to be expected; treasury policy should specify how such differences should be researched, analysed and resolved.
An effective forecasting process enables the treasury to project cash visibility into the future, enhancing the team’s potential to manage cash proactively.
Treasuries that have achieved a high degree of global cash visibility combined with optimised forecasting are in a superior competitive position to deploy the cash effectively, where and when needed. In many larger organisations, the mobilisation of cash involves the use of in-house banks and payment factories to administer cash pools and operate efficient payment processes. The underlying challenge is to integrate the key information from these sources with the cash management workflow, and the extent of this depends on the breadth of treasury’s mandate.
In-house banks rely on treasury technology to offer cost-effective financial services to the entire organisation, helping to optimise interest income/expense performance through efficient inter-company operations and the reduction of bank fees and transaction charges. In-house banks support notional pooling and zero-balancing (ZBA) accounts, validating banks’ operations and allocating interest to the pool members. Additionally, they can initiate the manual or automated target/peg balance transfers for funding shortfalls and sweeping excess cash, putting the organisation’s internal cash to work where it is needed. Payment factories provide cost effective centralisation of bulk payment management, offering secure, standardised facilities. They offer a standardised means of access to commercial cash flows, so that summary level information may be made available to the treasury department’s cash management process.
Cash mobility includes secure treasury payments management, for the initiation and control of payments for deal settlements and maturities, and for other treasury-based cash flows such as coupon, option premium and margin payments, cash transfers and ‘payments on behalf of’. The process will extend to bulk payments for the larger organisations that operate payment factories. The workflow will typically include the segregation of duties, instruction automation and validation processes to comply with security policy in this sensitive area, and will accommodate the formatting and protocol requirements of the different services required, such as the single euro payments area (SEPA), FedWire, automated clearing house (ACH) and CHAPS.
Finally, cash mobility enables treasuries to originate the funds movements needed to optimise short term funding and/or cash investment, including money market fund (MMF) investments.
This article has summarised the essential components of a solution in which a corporate treasury can gain end-to-end visibility over the organisation’s cash flows, leading to more effective funding and investment operations. This, in turn, leads to a reduction in working capital demands as the hidden cash within the organisation is put to work where it’s needed. Further, this result has positive effects on the creditworthiness of the enterprise, and also improves interest income/expense results. The continued prominence of cash and working capital management in the treasury industry strongly suggests that innovative treasurers will continue to strive for performance improvement in this area.
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