Navigating Stormy Waters: Why Cash Management, Forecasting and Liquidity Management are Converging

Treasurers have to navigate safely through a number of converging challenges, managing myriad issues simultaneously in the face of the impending Basel III capital adequacy rules and adverse economic conditions, which prompted the European Central Bank (ECB) to launch its long-term refinancing operation (LTRO) at the turn of the year in a futile attempt to ease tight credit conditions. All this and the additional time burden of meeting the single euro payments area (SEPA) compliance deadline of 1 February 2014, which is now fast approaching, means the metaphorical inbox is full and the treasury’s ‘issues log’ is extensive.

The liquidity risk arising from these variable factors is perhaps the biggest challenge for treasurers arising out of these storm-tossed conditions. It is forcing a requirement for more granular information on tactical changes related to bank product selection, counterparty risk and an improvement in the visibility of cash and liquidity. If you can achieve better, quicker forecasting it will improve the effectiveness of your cash management and feed into a better statement of a firm’s liquidity at any given point. A virtuous circle is possible if treasury departments can get their processes and technology aligned and integrated. This isn’t a new message, but it has never been more relevant or mission critical.

Many treasurers are taking a holistic view of all of these issues and how they affect the wider risk and liquidity environment. Bank counterparty risk, investment horizons, cash and banking structures, systems and technology, investment strategies and supply chain risk are all being looked at in more detail, and treasurers are recognising the interplay between these issues and the need to take the lead within corporate environments.

The Post-2008 Treasury

Since the credit crisis of 2008, treasurers have come to the forefront of their businesses, assuming a more defined set of risk-related responsibilities. While there was always a latent responsibility to ensure the robustness of counterparty and liquidity risk processes, this is now more explicit. Today, treasurers are under greater pressure to have visibility and control over the information related to these risks and to carry out the necessary stress-testing. As a result, treasurers are looking at their strategies in more detail and, in some cases, are prepared to redesign them.

For example, some very large corporations are developing global liquidity mobilisation and monitoring solutions. Others are fundamentally changing their investment strategies, because they want more cash at hand in case they need to call on it, while other corporations are changing their cash forecasting models because the 80/20 rule is no longer appropriate.

Cash Management Strategies

While there are different drivers for treasury developments across different industries, there are a number of universal cash management trends that are coming to the forefront. The selection of an ‘end date’ for SEPA – when domestic payment instruments are replaced with SEPA Credit Transfers (SCTs) and Direct Debits (SDDs) – has sent a clear signal to companies that have not deployed any effective SEPA plans that they need to get moving. The end date has brought SEPA into the realms of a compliance event and European treasurers realise it is no longer an optional item on their agenda. The opportunity should be looking at how to improve your cash pooling, forecasting and reporting while you are updating systems to achieve compliance, perhaps taking the step to move to a payments factory approach at the same time if it is appropriate.

Corporate treasurers that have centralised their cash management operations are now looking at the next phase of efficiencies, cost savings or risk mitigation that they can gain from their automated and standardised processes. For example, they can link supply chain finance (SCF) solutions to the payments systems within these centralised structures and provide their counterparties with financing solutions.

These SCF solutions are particularly useful for companies that are holding large amounts of cash. In a zero interest rate environment, creating yield on investments is difficult and treasurers at large corporations are looking for ways to deploy cash. The use of SCF solutions ensures that there is sufficient liquidity throughout the chain and, in turn, can help ensure the long-term viability of all the businesses in the chain. The counterparties in the supply chain have the opportunity to get early payment and liquidity on attractive terms.

Another opportunity within the centralised environment is virtual account solutions. Many sectors, including large online retailers as well as some non-bank financial companies, are already taking advantage of virtual account-based solutions to rationalise physical bank account models, while simultaneously improving reconciliation and reducing costs.

Cash Forecasting and Visibility

Most corporate treasurers are aware of the importance of cash forecasting. Without the right visibility on balances, companies will have to hold unnecessarily large buffers of cash to manage unexpected spikes in liquidity. This cash will be non-strategic and won’t be yield effective. Better use of cash equates to better treasury management.

But it is not that simple: gaining the required visibility presents myriad challenges. Treasurers at large corporations that operate on a global basis have to consider different time zones, currencies, systems, platforms, users, investments, banks and bank systems. It is an incredibly complex task, but an important one.

Many companies have found that their treasury management systems (TMS) are not always sophisticated, nor advanced enough when it comes to the process of cash forecasting and pooling data from different systems. On other occasions they may suffer from having too many layers of complexity such that full implementation is never fully realised as planned. Often TMS do not work in a multi-bank way and treasury departments have had to default to using spreadsheets. Corporations need technology platforms that integrate cash, liquidity and risk management to improve liquidity on a multi-bank level to aid cash forecasting. Open platforms or SWIFT connectivity can help.

Liquidity Management

The zero interest rate environment, which looks set to continue for the foreseeable future, has a significant impact on liquidity management. But many treasurers are still thinking in terms of the structures and models designed for a return on investment, rather than a return of investment.

The overriding concern for treasurers today is counterparty risk and liquidity. Access to liquidity has become equally important as the return on that liquidity. Today, where corporations decide to put their liquidity is not just a basis point and yield consideration but more fundamentally an investment in the financial health of the counterparty institution. We are seeing revisions taking place not only to global, but also regional strategies being taken in liquidity management as corporations look to set up different thresholds and counterparty limits for different institutions in different parts of the world. Treasurers don’t want to be over-dependent on a single global bank

There are also interesting developments with the impending Basel III capital adequacy rules, where the better weighting given to ‘stickier’ funds from corporates will have a bearing on the liquidity options that financial institutions will offer to their corporate clients.

The Changing Nature of the Corporate and Bank Relationship

There is an increasing level of understanding between treasurers and banks that collaboration will provide benefits for all players. The on-going development of sophisticated messaging standards such as ISO 20022 XML and the use of SWIFT for corporate-to-bank communications have opened up greater collaboration between banks and their corporate clients. This can ultimately help not only transaction processing efficiencies but also the resulting liquidity management.

Standardisation means that a large corporation looking to balance the range of banks with which it deals can make its decision based upon the value of the service rather than be hindered by the complexity of their commercial integration structures. Execution speed, value added functionality, robustness of processing, and how enquiries are dealt with are the more core competitive factors: how integrated systems are with the outside world is, from a corporate’s perspective, not what they would prefer to see in the competitive space.

A transaction bank can help treasurers to align treasury technology in the most efficient way. This doesn’t necessarily have to be a large, centralised re-engineering project though. End user systems with the right types of functions and multi-bank links can deliver the efficiency and risk mitigation required in today’s treasury environment.

It is important that transaction banks recognise the diversity within the corporate treasury; different drivers affect different industries and lines of business. For example, Deutsche Bank has been working with a number of corporations that want to use SEPA as a catalyst for a redesign and improvement in regional banking, liquidity management and cash forecasting. Others we are engaged with, driven more by a working capital imperative, are exploring how to optimise their liquidity positions and broader commercial relationships through the introduction of financial supply chain solutions.

As treasurers look at the perfect storm of influences affecting treasury departments, they need to be aware not only of the threats, but also of the opportunities. Transaction banks such as Deutsche Bank are engaged in different dialogues with their corporate treasury clients, compared with the pre-2008 conversations of a few years ago. Cash management discussions used to be focused on products, today these discussions are about current trends, challenges and opportunities. This improved sharing of information between banks and corporates should result in improved solutions for cash and liquidity management.

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