Demand for Improved System Analytics

The corporate treasury has never earlier experienced being so in demand from the rest of the organization. The treasurer needs to answer: “How is the credit crunch affecting us?” “How can we support our suffering vendors?” “Can we assist our customers with financing?” “Can we find funds for our capex?”

The need for integration of multiple systems, getting access to the information, having the ability to perform analytics and precise and immediate reporting have never been more evident than today. The ability to perform scenario analysis is becoming paramount to succeed. The quest to Get Control of Cash has never been stronger. This requires modern, scalable and global processes and IT solutions. Probably there have never been easier times to get approval for those investments than today.

Bank Relationship Management in Turmoil

The number of banking relationships is difficult to expand since every bank is deleveraging and only keeping ongoing relations and sometimes even exercising the market disruption clause to get out. Only 8 months ago our peer groups discussed how to decrease the number of banking partners. The aim was to filter out those relationships that you want to build on for the long term but now the situation is totally opposite. The previous concept of sharing the wallet to incentivize the banks has been replaced by sharing the collaterals.

We see more banks receiving state guarantees. This means that banks not being under any form of government protection will be having a hard time financing and there are crowding out effects of non state protected debt. There will still be the same amount to invest and that will channel itself through to highest security and liquidity. Giving a state guarantee just saves the banks but does not add liquidity. However unlike the 30-ties this time there is sufficient liquidity in the market, but the money does not get around. The money stays put and does not create a significant multiplication effect to kick start the credit markets.

State controlled banks will focus on their local markets abandoning the global scene with a back to basics strategy. It will take considerable time before we will see any more complex financial products instead the banks and corporates focus on plain vanilla products instead. The treasuries need to explore new financing parties outside the banking system, e.g. the European Investment Bank or banks in other regions such as the Middle East.

Banks are more humble now than only 6 months ago and previously the corporates were the credit risk but now it is the banks being scrutinized by corporates. Treasuries have requested guarantees and statements from foreign banks for support of the bank’s subsidiaries in emerging markets. It has been partly successful but not always.

Cash or Earnings KPI?

It is interesting to note that in this financial crisis very many companies are very well capitalized. Many are more concerned with their investment portfolios than available credit facilities.

My experience is that generally speaking the Earnings KPI is more preferred than the Cash KPI for most corporates. It determines how the set the goals, communicate to shareholders and set the important bonus targets. That is strange and will probably change. As everyone knows the Earnings can easily be manipulated and is hard to get to show the real state of the company. Cash KPI on the other hand often gives a truer picture of the performance. Wonder if this will change now? And if it does the bottom-up cash forecasting will come in fashion. There is only a small number of corporate doing that successfully today.

Why Did Not Regulation Reduce the Crisis?

Basel III is on its way and I’m sure there are a large number of bureaucrats and auditors contemplating a new set of regulatory framework they are sure will avoid another financial crisis like this.

But was that not what Basel II, Sarbanes-Oxley Act, Fair Value and Hedge Accounting should do? Why did they fail? And might it be the fact that some of them increased the speed and severity of the crisis? What effect did Fair Value have when it forces the banks to give fire-sale values to assets with no market price? How did Hedge Accounting increase the transparency so we could see the crisis coming? How did the bankers manipulate the Basel II to be able to leverage the capital base even more?

Maybe we shall consider not regulating the financial institutions and corporate sector but instead the private sector? Consider France where loan excesses have almost been avoided because you have severe restrictions of how you can mortgage your house – you cannot take out extra mortgage to fund a car for instance. All mortgage needs to go into refurbishments only. This automatically governs how the banks and corporates behave too.

But please let us see some more common sense regulations this time. I do not think that we can avoid blaming especially the Fair Value principles and Basel II for making the crisis much more severe than necessary.

Advantages of Bottom Up Cash Forecasting

Bottom up cash flow forecasting is very cumbersome to implement. And therefore very few corporates do. So far we have only found one reason to do it and that is severe external pressure from investors and banks during a period of extreme cash constraints. The pressure would consist of requirements of cash flow forecasts with such depth and detail that only a bottom up forecasting model could produce. Interestingly, our research has concluded that even after such companies have returned to profitability and sound finances they did choose to keep and develop the bottom up forecasting.

Cash forecasting improves the management of liquidity. Pooling of excess cash to accounts where the treasury department has access to the funds will enhance its abilities to act on short term cash deficits in other parts of the organization or invest the funds if not needed anywhere else. Medium to long term forecasting allows the cash manager to find ways to (i) maximize interest earnings by investing the available funds in investments with higher yields then usually received on ordinary bank accounts.

Cash forecasting enhances the company’s possibilities to (ii) determine the ability to generate future cash. If the cash manager is able to predict future cash inflows, as well as outflows, it enables pro-active actions.

Optimize the usage of available funds in the company for (iii) lowering the costs of funding.

Companies may be required to supply forecasts to its lenders (iv) to meet and manage financial obligations like loan covenants.

If cash flows are known in advance the (v) capital budgeting process is facilitated. Companies can optimize their investment activities to periods when funds are available.

Cash forecasting can be used as a tool to (vi) evaluate working capital initiatives. If e.g. the trend is that customers are delaying their payments for goods sold, management can take actions to improve the payment process.

There are several other benefits of a bottom up cash forecast. The turbulent markets and deleveraging will definitely make it well worth to implement because the cash constraints will not go away anytime soon.