Karin Hogberg Arthursson describes how Mölnlycke treasury set up its cash management structure from the formation of the company in 1998. She also outlines some of the challenges for treasury in a rapidly expanding business.

How is the Mölnlycke treasury structured?

The treasury is structured as an in-house bank with a number of responsibilities/processes:

• Cash flow forecasting and follow-up.

  Every month, we prepare a four month cash flow forecast for the consolidated group.

• Funding.

  We are responsible for arranging the financing for the group. External financing for the group as a whole is arranged through the parent company here in Gothenburg. We then finance the subsidiaries internally using intercompany loans and/or capital.

• Risk management.

  As an international company we are heavily exposed to both interest rate and currency risks. We manage these risks centrally for the Group.

• Cash management.

  We manage the cash within the group via two cash pool banks and a monthly netting cycle.

• Finally, we are the competency centre within the Group for both payments and bank account management deciding on and implementing solutions in this area. For example, when the group implemented a new IT finance system, SAP/R3, recently, treasury headed the project to set up payment and bank account solutions via automatic interfaces for the subsidiaries.

There are four of us working in the treasury department. The Treasury Controller is primarily engaged in the back office work – the controlling, bookkeeping and analysis. The Cash Pool Manager is responsible for the management of external bank balances and cash pools, as well as administering our system of internal loans. The Deputy Group Treasurer, together with me, monitors and hedges the group’s interest rate and currency exposures. She also runs the cash flow forecasting process and has the overall responsibility for ensuring that the netting cycle runs smoothly. As Group Treasurer, I manage the department and am responsible for organising and developing the sub-processes within Treasury. I report to the CFO. Treasury’s actions are guided by the stipulations in the Group Finance policy.

Why did you establish your in-house bank?

The background to this decision is important. Mölnlycke was established in February 1998 as a result of a buyout of the clinical divisions of SCA in Sweden and of Tamro Oy in Finland by the private equity group, Nordic Capital.

From day one, funding was centralised. We had arranged acquisition financing centrally. However, we also had about twenty newly started subsidiaries, predominantly in Europe, all needing working capital financing. As the buyout didn’t encompass accounts receivable, we needed to establish a system of internal loans and financing straightaway, which we did by establishing an internal bank.

As part of the buyout, we did enter into a service agreement with SCA, which allowed us to use their IT systems and administration in Sweden, as well as locally, for a period of three years. This meant for instance that we could integrate all of our subsidiaries into a factoring/netting system. For the first year, this was also the basis of our cash management strategy – cash was centralised on a monthly basis at the end of the netting cycle.

This initial arrangement was not satisfactory however. Too much cash was staying idle in the subsidiaries over the course of the netting cycle.

The need to put in place a new administrative and IT structure before the end of the service agreement with SCA meant that, in effect, we had a blank sheet of paper on which to draw our new structure. It would not have been efficient to simply replicate the SCA structure we were using to start with. Although we had sales companies in a number of European countries, the transaction volumes involved were small and would not justify a local set-up in each country. On the other hand, we had to ensure the structure we did adopt would be able to cope as the business fulfilled its plans to grow. We also needed to anticipate the introduction of EMU and the Euro by building a pan-European solution.

As a result, we decided to implement a financial shared services centre for all our European operations. We focussed on Europe as the region provides between 80 and 90% of the group’s sales. This financial service centre now does all accounting, accounts receivable, accounts payable, payments and closing of the books for our 14 European sales companies.

How have you structured the payments and cash management?

We have built a pan-European payments and cash management solution. In 1999 we looked at all the available bank solutions and decided that the ideal solution was to hold all our bank accounts with one pan-European bank. Because no single bank could provide services in all the countries we needed them, we decided to implement a two-bank solution – one for the Nordic countries and one for the rest of Europe.

We have set up a zero-balancing cash pool in Euros. This is an automated cash pool covering our local bank accounts in Euroland, with a manually initiated sweep from the master account to Sweden on a weekly or bi-weekly basis.

We also established a cash pool in each country in the Nordic region. The balances are swept to Sweden on a weekly or biweekly basis and then swapped into Swedish Krona. Unlike the Euro pool, there is no automatic zero-balancing. We have to initiate these sweeps ourselves. We also have local overdraft facilities in place, which we use as we try to run slightly negative balances in the subsidiaries, not having to sweep too frequently.

This structure has allowed us to achieve our objective to eliminate idle balances with the subsidiaries.

How did you implement this structure?

We needed to implement the new SAP R/3 system and administration structure to be fully independent administratively. In total, the implementation process took about two years, being completely rolled out by May 2002.

We actually developed the financial shared services centre before the company implemented the new SAP R/3 system. We therefore had a two-phased implementation approach for payments:

• The first step was to take over payment initiation from the subsidiaries to the centre using the local banks.
• The second step, once SAP R/3 had been rolled out, was to implement the new technical structure and changing to the new banks.

We built interfaces based on EDIFACT format between SAP R/3 and both banks. This allows the centre to create a single file to initiate local low value payments in 14 countries. This file is sent to the banks, which then effects all payments locally. This system allows us to initiate all payments from the centre. From the two banks we then receive, also in EDIFACT format, daily bank account statements including credit advice information. We use these files to update the accounts receivable ledger and bank accounts in SAP R/3 for the 14 subsidiaries and the parent company. This allows us to always have updated balances on the internal bank accounts which all subsidiaries included in the cash pool structure have with group treasury.

What risks do you face and how do you manage them?

The main risk we face is currency risk. We hedge foreign currency transaction and balance sheet exposures in accordance with the group finance policy. We use both forward contracts and options in our hedging strategies.

Our interest rate risk management policy is relatively flexible. We are allowed to vary the duration of our exposures within a quite wide margin. We use both swaps and forward rate agreements to achieve our objective.

Finally, we have to maintain a minimum liquidity reserve at all times, which we monitor on a daily basis.

How do you arrange funding?

We started in 1998 with an acquisition financing arranged with one bank. To support the growth plans of the company and reduce our reliance on one bank, we arranged a new syndicated loan facility with Nordea, SEB and Svenska Handelsbanken early this year. As a private company with no rating, alternative sources of funding are difficult to tap. We chose these three banks because they had all been involved with the company to some extent from the start in 1998.

Your credit facilities are conditional on staying within defined financial ratios. How do you ensure that you continue to do this?

This is a continuous process. We measure covenants every month. This is also part of a wider focus on cash flow in the company.

How do you use technology within the treasury?

The main system is the SAP R/3 system. We use this to manage our internal bank accounts, forecast the cash flows, manage our cash and track the foreign exchange transactions.

We use a treasury system from CRM to manage our loans and derivatives.

We still make use of two systems from SCA, one being the system to handle factoring and netting of internal invoices, which is interfaced to SAP R/3, another being a system to report and consolidate the forecasted transaction exposure of the group.

We also have the electronic banking software from our banks which we use to monitor bank balances and also to make ad hoc payments.

What are the challenges for the treasury in a rapidly expanding business?

Our main role is to support the daily operations of the business. This means arranging competitive financing and also minimising risk. To be able to achieve this, I need to keep up to date in two main areas:

• As an expanding company, there are internal changes all the time. It is important to understand all these changes to ensure that treasury continues to provide the desired services to the different parts of the business.
• I also need to keep abreast of external changes. These range from regulatory changes, such as the introduction of IAS 39, to the launch of new cash management solutions and the changing availability of different sources of funding.

In both cases, it is important that treasury is ahead of these developments rather than reacting to change.

Another important factor is to ensure that our integrated technical cash management structure continues to work well. This structure relies on the interfaces we have built between us and the banks working efficiently. The base to achieve this is service level agreements with the banks and the fact that we have the support of IT staff. The maintenance of the main SAP R/3 system is outsourced to an external partner.

What are your next challenges?

As a company, we have just started to investigate the transition to International Accounting Standards. From the treasury perspective, we will start to look at IAS 39 by the end of the year. The transition to IAS for the company as a whole is planned for the first half of next year.

Treasury is also in a period of consolidation. We will be receiving the first upgrade (since implementation) to our payments solution shortly. We also want to make better use of the systems by refining the way they all integrate. We have access to a lot of information, but we need to find ways to filter and consolidate it more effectively to enhance our decisionmaking ability.