Cash & Liquidity Management

Moving in waves

Published: May 2015
Surfer riding a wave

Inefficient mobilisation of liquidity has a number of negative effects on corporate financial well-being, not least being increased risk. The good news for businesses is that there are several ways to hold a steady course in a rolling ocean of market uncertainty.

In an economic environment beset by market volatility and low returns, global treasury operations are faced with a daunting task when it comes to optimising liquidity. Just trying to hold on to company cash when there are so many scenarios that are seemingly set on disrupting the peace may make the role of the treasurer feel a lot like sailing into the wind. For some, a downturn in orders from customers conspires with later payment receipts to threaten working capital stability. Even where sales orders have picked up in the wake of the financial crisis, the volatility of the markets and the all-time low yields experienced by most organisations continue to emphasise the ‘normal’ risks associated with the mobilisation of cash to create what for many must feel like waves of disruption.

Liquidity risk, credit risk, country risk, (even continent risk), currency risk, counterparty risk, tax risk and operational and compliance risk are all threats to the peaceable use of company funds in such circumstances. If it is considered then that many multinational businesses lack full transparency and visibility over their cash structures, the level of exposure to these risks in the current economic environment presents a threat that must not be ignored.

Drivers for change

Such uncertainty has served to push cash and liquidity management up the agenda to the point where they have become board-level issues, says Dennis Carey, Solution Consultant for cloud technology vendor, Reval. Where the concern is with idle cash (a “significant, unproductive asset”), the feeling, he notes, is that if the company doesn’t do something with that cash, “then someone else certainly will.” Indeed, a vast pool of idle cash can make a business a target for a takeover – will shareholders resist a buyer with plans to work that cash hard? But cash pools may be positive if used wisely.

They can, for example, be a means of unlocking working capital. Instead of borrowing in one location, it may be possible to use the cash from one group operation to help fund another. Tackling the effective mobilisation of liquidity also facilitates more effective risk management. This could be from a counterparty risk perspective, ensuring not all eggs are in one basket, or from a foreign exchange risk management view where having a lot of cash in a particular currency exposes a business to fluctuations in that currency. “The idea of having cash where it is needed and not have it sitting idly by is very important,” states Carey.

Effective cash mobilisation is both a need and an opportunity, agrees Søren Kyhl, Global Head of Transaction Banking at Danske Bank. As the role of the corporate treasurer has become more strategic, so the need has risen to devote more resources to ensuring liquidity is in place at the right time, he says. But he acknowledges that this action faces difficulties in a low growth, low interest-rate environment where the competition in almost all industries is focused more intensely on cost. “Corporate treasurers are having to do more with less and this is driving the need to optimise processes and make sure they don’t have cash lying around,” he notes. “They need at all times to make use of all available opportunities.” The good news, he adds, is that there are “many more opportunities now,” aided by technology and even regulation (SEPA, he suggests is good example of the latter).

Determining the right solution

“The first step to solving a problem is to admit you have one,” notes Carey. In the current environment, and with treasury under pressure to perform, this may be more readily admitted. However, the most appropriate solution very much depends on the specific situation. A programme of optimisation will need to consider in which countries the business is present, the currencies it is exposed to, its tax structure, the banks it uses and the various legal and regulatory points that may apply in (and perhaps between) each jurisdiction. In short, there is no one-size-fits-all solution.

Determining the most appropriate structure is thus a matter of asking the right questions, says Carey. This will start internally with tax, legal and operations functions, aiming to identify the challenges and pitfalls. And then, he says, it is a matter of working with banking partners “to get a consensus view” by taking a number of individual bank views and pinpointing the common themes.

Treasury consultants also have a key role to play in this process, especially tax and audit partners who possess the level of local expertise that may be beyond normal corporate understanding of areas such as thin capitalisation and transfer pricing. Regulatory matters will also arise, including exchange controls between currencies, central bank reporting requirements and bank capital testing. Of the latter, due to new capital adequacy rules in various jurisdictions, Carey explains that services like notional pooling may no longer make business sense for the banks.

The discovery process can be “a very cumbersome task,” says Kyhl. Talking to his clients, he can see that many are constrained on resources – not just budget but IT too – and are under pressure to keep costs down. He sees them re-assessing the efficiency of cash mobilisation on two fronts: “It will be the same issues and constraints that need to be investigated so we try to pull this together and advise on how to minimise costs on interest and working capital but also on how to streamline and save costs on internal processes and operations.”

Internal and external solutions

Internally managed solutions range from an inter-company loans structure to a simpler means of enabling entities to identify and report their cash needs and excesses, and having a process in place to move group cash to where it is most needed. Corporates can also work with their banks to set up more formal physical or notional pooling structures, multi-lateral netting or virtual accounts (the latter currently for collections only). “A significant concern with cash is the number of inflows and outflows between affiliates,” says Carey. “Having a structured process in place to clear inter-company payables and receivables will move cash to where it belongs; having an affiliate with a lot of cash and that is not paying their inter-company requirements is a concern.”

More sophisticated formal structures include in-house banking. These started, and remain most prevalent, in Europe – but they are now gaining traction in other areas, particularly Asia Pacific. Although bank involvement remains necessary, a corporate treasury centre is used to manage operations from one place. More recently, these structures have seen the addition of a layer on top known as ‘payments on behalf of’ (POBO) or ‘collections on behalf of’ (COBO). This places the in-house bank as the corporate’s counterparty to its own external obligations. When in-house banking first started, each affiliate would pay its own bills and funnel the cash to the treasury centre. Now we are seeing the treasury centre paying the bills, so the cash never needs to move down to the affiliates.

Know your cash

The dynamic nature of all these variables indicates that successful mobilisation of cash is an ongoing and long-term project. However, the first and most fundamental task is to be able to identify exactly where company cash is. Connecting treasury to the various entities within a group, and to the various banking partners, can be a challenge; of that there is no doubt. But as the development of web-based and SaaS/cloud technology progresses, so the ease with which connectivity can be improved increases. Being able to use data delivered by banks and affiliates in various formats via multiple communication methodologies is important. Being able to analyse the combined cash and risk elements is also a valuable part of effective mobilisation. It’s not only about how much the company has, but also how the amount, its location and accessibility affects the group’s consolidated results in terms of foreign exchange translation risk, counterparty risk and compliance with different regulations around cash and financial transactions, for example.

Long-term challenge

Whilst there is no one-size-fits-all offering for effective mobilisation of liquidity, there is an optimum solution for each business. If identification of the remedy requires complete visibility over cash (not just the balances but also where it is and what impact that cash has on the business) then this is the point at which proven technology comes into play.

The ability to capture, analyse and understand the right information is possible with the right software and advisory partners, which includes both banks and vendors. “Just as we try to use regulation as a proactive source, we see technology in much the same way,” says Kyhl. “It’s not only about how we can create and offer new and better products but also about advising clients on how they can best use the potential that exists in new technologies.”

The creation of an effective liquidity mobilisation programme is a long-term challenge in which the goal-posts are likely to move subject to the many variables that affect liquidity. The dynamic nature of the task and the impossibility of knowing every market nuance is why external partners – consultants, audit firms, tax specialists, banks, and so on – tend to be involved on an ongoing basis with internal constituencies such as tax, legal, accounting, finance and treasury.

The fact that it is a long-term project also means it is unlikely to be executed in one go, says Carey. But businesses that have grasped the nettle and started to create coherent and connected structures will benefit from improved visibility over their cash positions. Simply knowing with accuracy the basics such as how much, where and in which currency at any given time can improve forecasting and facilitate the optimisation of investment returns. It may also reduce the need and cost of borrowing and transactional banking. Firms that have optimised their cash structure could improve foreign exchange hedging and other risk costs whilst better understanding their strategic use of cash through various corporate actions such as M&A, stock buyback and dividends. In effect, it makes businesses more competitive; as Kyhl points out, as long as the structure and technology implemented is able to grow with the project, treasury will be in a positon to keep ahead of the wave. But when the regulatory environment and the technical infrastructure lacks homogeneity, the treasurer faces a different set of issues.

Cash mobilisation in emerging economies

Trade in Africa represents an exciting opportunity for many corporates. Some of the 54 countries that make up the continent have the same – and in some cases better – levels of infrastructure and systems to assist financial movements, with full RTGS mechanisms, well-developed clearing houses that can handle electronic funds transfer (EFT), multi-currency transactions, direct debiting, and also home to more innovative payment solutions such as mobile money. But there are some that lag behind the rest of the world.

There is already significant corporate investment pouring in to all regions and the subsequent repatriation of funds represents a substantial volume of cash movement. But repatriation is not the only reason for mobilising liquidity in and out of Africa. “Often corporate treasurers are driven by a need to manage sovereign and currency risk by reducing exposure of their cash balances on the continent and putting them into more stable geographies,” explains Brendon Bouwer, Product Head of Liquidity Management & Account Services – Corporate and Investment Banking division, Standard Bank.

Most of the markets in Africa have transfer pricing rules and attendant withholding taxes. However, variability is the watchword in many other aspects of cash movement. Uganda allows free movement of funds across its borders whereas in Angola a company requires permission from the central bank to move its cash. In Kenya, it is possible to clear dollars, pounds, euros and Kenyan shillings through the local clearing house as a domestic electronic funds transfer, whereas in South Africa, domestic purchase of goods and services must be paid for in South African rand only.

With this issue in mind, there is a strengthening regional component to cash movement, says David Robinson, Product Head of Payments and Collections, Corporate and Investment Banking division, Standard Bank. With the African Free Trade Zone overseeing the development of intra-regional trade co-operation, at the regional level, organisations include the 14-strong Southern African Development Community (SADC) which can facilitate (in most countries) same-day cross-border RTGS. The East African Community (EAC) is another regional intergovernmental organisation striving for a co-ordinated approach to trade and the movement of cash, with a regional RTGS implemented in certain EAC countries. Similar aims are held by the Economic Community of West African States (ECWAS) and the Common Market for Eastern and Southern Africa (CMESA).

All are trying to create a movement similar the European SEPA model, forming a common payments infrastructure and encouraging freer trade amongst members. “It is still early days for these organisations,” says Robinson. He notes that unlike in Europe, the countries within these regional structures have not yet aligned regulations, such as exchange controls. They also do not share a common currency: SADC uses South Africa Rand as its settlement currency, while EAC uses or is planning to use all of the domestic EAC currencies, as well as USD, GBP and EUR.

Banks operating within this space don’t just need local understanding, they also must have the systems and the reach to be able to create solutions that fit this landscape. However, says Bouwer, there is also an issue with African countries wanting sovereignty and autonomy over these systems which means that when banks with regional footprints operate in their markets they want those systems to be localised. “Often it is not possible to run a service that uses a hub and spoke model; some authorities require the banking system to reside domestically and will put various restrictions on it to maintain control should there be a fall-out with the home country.”

Although the nature of the counterparty and the objective of a particular transaction will dictate the type of solution offered, these matters can combine to make the provision of domestic and cross-border movement of funds somewhat challenging for both bank and client. No bank in Africa reaches across the entire continent; Standard Bank is one of the largest, extending operations to around 18 of the 54 countries. But to reach further and facilitate transactions it has had to establish strategic correspondent banking relationships in what it calls ‘non-presence’ countries to allow those transactions to move into those markets. Nonetheless, he recognises that “nothing beats having a presence in-country and dealing with client needs in-house.”

For corporates entering the region, ‘traditional’ liquidity mobilisation solutions such as notional pooling and sweeping may be available, assuming local banking regulation will support it. Regardless of practical offering, the banking structure itself must be viewed in layers, advises Bouwer. Having created domestic and foreign currency accounts in each country, the localised structure should flow into a regional banking set-up which will ultimately flow into the client’s global banking structure. Typically, a business will establish a treasury unit in one of the regional co-operation zones mentioned above, taking advantage of relaxed exchange controls, foreign country movement reporting and so on. The need for on-the-ground help is perhaps more evident across Africa than in any other continent, says Bouwer. It is this knowledge that must be leveraged in the quest to optimise the mobilisation of liquidity.

All our content is free, just register below

As we move to a new and improved digital platform all users need to create a new account. This is very simple and should only take a moment.

Already have an account? Sign In

Already a member? Sign In

This website uses cookies and asks your personal data to enhance your browsing experience.