In our regular interview with senior figures in the world of treasury and finance, this month talking to Nigel Brown, Arcadia Group.

Arcadia Group is the number two retailer on the UK High Street in terms of clothing and footwear. Having made an £8m loss in the year to August 2000, Arcadia made a profit of £53m on a turnover of £1.9 billion in the year to August 2001. Over 95% of the group’s trading activity is in the UK, with a small business in the Republic of Ireland and franchises in Europe, the Middle East and the Far East.

At the end of August 2001, the group had 2350 outlets, of which 1800 were standalone stores and 550 were ‘stores within stores’. In the UK, its activities are concentrated in six brands – Burton, Dorothy Perkins, Evans, Miss Selfridge, Topshop/ Topman and Wallis.

How is the Arcadia treasury structured?

Arcadia uses a broader definition of treasury than is traditional. I am the group treasurer, but I am also responsible for corporation tax, VAT and insurance.

On the treasury side, we are a small team, despite the fact that the company is quite large. This is for two reasons. Firstly, we have a lot of repetitive transactions and, secondly, the overwhelming majority of our activity (over 95%) is UK-based. In terms of personnel, I have a treasury manager, who is my number two, a dealing manager and a treasury assistant.

Like most corporate treasuries, we operate purely as a cost centre, not a profit centre. Our activities on foreign exchange, for example, are not speculative, they are simply to provide some certainty and predictability to the costs incurred by the brands when they purchase abroad.

As treasurer, how are you held accountable?

Again, Arcadia is slightly unusual in this respect. I report to the Group Financial Controller, who reports to the Finance Director. We all also report to the treasury committee, which is a formally constituted committee of the main board. Its purpose is to oversee our workings, to make sure that we comply with our stated policies and controls. For example, I am required to hedge foreign exchange according to certain formulae and not to speculate. I report to the treasury committee on how I have done this in the last quarter.

The treasury committee has also to sanction any changes to debt. This means that we have to consult them when we refinance or when we seek to place deposits with new financial institutions. The committee is a control mechanism; it is not there to question our commercial judgement, per se.

How does this structure affect the way that you work?

It means that we work closer together with the finance team than a traditional structure would allow. The benefits of this structure were highlighted when we worked on our recovery plan, the need for which arose after a trading difficulty in December 1999. In the lead up to Christmas 1999, overstocking, a shift in consumer spending patterns and price deflation combined to put us into a loss situation. In such circumstances, cash is king and banks understandably become nervous. Although we never had a problem with cashflow and didn’t breach any banking covenants, we kept our banks fully informed.

Since that time, we have become a very much more cash-focussed business. We are a lot more skilful in cash forecasting and a lot more commercial on cash management, particularly in terms of supplier management and stock control. This focus on cash has raised the profile of treasury and finance within the group and has raised the relative importance of what we are doing.

As part of the recovery process, we looked through the whole working capital cycle and tried to identify where we could make cash work more effectively. This meant looking at some of the practices, procedures and systems that we were operating and asking why we operated that way. For example, we used to be very generous with our credit terms. We used to pay our trade suppliers in ten days; we are now on more standard terms and trade suppliers are paid in 28-30 days as are our foreign suppliers.

On stock control, previously we held greater levels of stock than now in order to fully potentialise sales; now we hold lower levels of stock, thereby reducing exposure to fluctuations in consumer demand. As a result, the group is in a good defensive position because we are not over exposed on stock and debt levels are much lower.

We now have, in effect, what amounts to a standing committee on cash management, both in terms of taking initiatives forward and for reporting on week-by-week cash movements. One advantage we have as a retailer is that the quantity and quality of information is exceptionally good, because of the way electronic systems provide us with up to date figures, daily sales figures the day after for example. This committee’s role is to try to spot opportunities to manage cash more efficiently; treasury and finance help by asking pertinent questions of other parts of the business.

How do you collect cash and cheques from your stores?

Where we operate concessions within other stores, those stores (for example, Debenhams) cash collect for us. We organise cash and cheque collection for our standalone stores ourselves. Security carriers collect cash and cheques from each store and take them to the banks’ cash centres. Processing costs there are much lower than those at bank branches. We had considered whether to send cash to one bank and cheques to another. When we put out tenders for this business, we found a difference in the rates that we were quoted for cash and for cheques. However any cost saving is outweighed by both the procedural problems that it would cause in-store (managers would have to separate cash and cheques) and the cost of the additional security pickups.

The overall equation thus drives us to put cash and cheques together, to use security carriers, who are efficient and reliable, and to use the banks’ principal cash processing centres.

You mentioned a tendering process. Can you describe what you did?

We held a tender both for our cash and cheques business and for our external credit cards business last year. About 30% of our receipts are cash and cheques and about 40% are external credit and debit cards. The rest are store cards. In both cases, our only rule on the tender was that if any bank wanted this ancillary business, it had to be in a debt relationship with us. As long as a bank is in a debt relationship with us, we then look for the best quote and the best quality service that meets our threshold criteria.

It is interesting though that for what is largely a commodity product provided by all the clearers, there are some banks that try that much harder than others. This time round HSBC not only provided the answer to the tender, they also looked at other issues and made suggestions. They have upgraded our electronic banking system and are now helping us with European pooling of our cash, something that we have not been able to do before. All the banks met the quality threshold and were quite keen on price. The bank that makes a little more effort, as HSBC did, stands out.

How many banks did you ask to tender?

We asked five banks to tender for the cash business. One of the principal reasons for conducting the tendering process was to cut down the number of banks with whom we have a relationship. It’s more efficient to manage a smaller number of big banking relationships. For example, it makes it more efficient for our back of house people in Leeds to do the daily reconciliation. Secondly we now have three different electronic banking systems. This is part of simplifying our business, which is now our focus.

How long did the process take?

We started in August, the banks responded by early September and we made a decision by mid October. As a retailer, we didn’t want to change things in the pre-Christmas period, so we waited until this year for implementation. It is now live. The lead-time is possibly a full six months from inception to implementation. We gave ourselves enough time to do it properly. The banks’ own implementation teams also helped us. And it seems to have worked quite smoothly.

Which banks won the cash and cheque business?

Until this round, clearing services were provided by six banks, which we have now concentrated down to three. In England, Wales and Scotland we use HSBC and Royal Bank of Scotland/NatWest. In Northern Ireland, we use Ulster Bank – which is part of the RBS Group – and Bank of Ireland in the Republic of Ireland.

Which banks won the card business?

HSBC and Barclays Merchant Services. That’s done on price. The service is pretty straightforward. A key determinant for us though is telecoms cost. Because of fraud losses, banks always push for lower floor limits, which would cost us more in telecoms costs. Nevertheless our floor limits are coming down over time as telecoms costs come down and back of house systems speed up.

How about the introduction of PIN and chips on credit cards? Your in-house systems are going to have to change – who is going to pay for that?

We know we can upgrade but that it will cost. We know that the banks are prepared to make a modest contribution to that cost. At the moment, retailers in the British Retail Consortium believe that the benefits are too skewed towards the banks. The fight against fraud is in the interest of both banks and retailers. But if the bulk of the savings are going to be realised by the banks, whilst we have to bear the majority of the costs of implementation for little return, then something’s not quite right.

My other big gripe is with the non-negotiable, one per cent Interchange Fee that is payable to the big banks.

What do you do with any surplus cash?

We sweep all our accounts every day. When we have floating debt, we use the surplus cash to pay that off. When we haven’t, as at the moment, we move the surplus into triple A-rated money market funds. Our next step is to set up a European pool on a daily basis to include our Irish and our very small German business.

Can we move on to financial risk? What risks do you face and how do you measure and manage them?

We face three main risks. The first is foreign exchange risk. We have a small business in the Republic of Ireland and some franchises in Europe, the Middle East and the Far East. However, 95% of our trading is in the UK, and therefore in sterling, and our funding is sterling-based. Our main FX exposure is to clothing purchases around the globe, most of which is denominated in dollars. Our policy is to hedge it as far out as the business forecasts, providing a basic hedge to those forecasts. We are required to hedge 75% of our forecast exposure. Within this we have some flexibility, so we use a combination of forwards and options, which gives us some certainty of rate with the ability to participate if the rate moves in our favour.

The second financial risk is interest rate risk. We are offloading debt quite quickly now. At the end of August 2001, net debt stood at £140m, down from £256m a year before. We also have some long-term debt, which is fixed. Our policy is to provide a hedge for interest, by providing certainty to the interest cost in the profit and loss account.

Thirdly, a group of our size always has to manage financial covenants and report against them internally and to the treasury committee.

How do you use technology?

We use banks’ own electronic banking systems (Hexagon from HSBC, RoyLine from RBS and BusinessMaster from Barclays), which allow us to make payments. These systems also tell us what cash we have in the bank and also allow us to predict end-of-day balances. We don’t have a treasury management system, although we do investigate these from time to time. Because we are a simple treasury function, we use simple PC based Excel systems to record our activities. There is no urgency to put in a treasury management system because what we have works.

We don’t use the Internet, mainly because I am not persuaded that it is secure and also because we would lose the personal interaction with our banks.