Addressing the Challenges in Latin America

In a survey conducted by Business Development Research Consultants (BDRC)¹, over two-thirds of responding companies considered it a key treasury goal to achieve centralised global liquidity management. Indeed, within North America and Europe, companies have made great strides in centralising their regional liquidity management and some are even creating a path to global optimisation.

• It is possible, for example, to centralise control over subsidiary cash positions through cross-border multi-bank cash concentration – sweeping and consolidation of daily cash positions from multiple bank accounts – even where the accounts are spread across different financial institutions and countries or regions, e.g., Europe and North America.
• Once funds are concentrated, multicurrency notional pooling solutions allow corporate treasuries to automatically balance the short-term financing and investing needs of cash-rich and cash-poor subsidiaries, even where they operate in different currencies. Among the benefits of ‘notional pooling’ is the ability to avoid inter-company loans administration, while the ‘multicurrency’ component eliminates the inefficiencies inherent in daily FX conversion of currencies to offset surplus and deficit positions.
• Advances in reporting allow up-to-the-minute information to be delivered to cash managers and integrated into enterprise treasury workstations, providing a snapshot of global liquidity at any point in time and supporting enhanced cash forecasting and planning. Automated investing solutions support the placement of consolidated, surplus cash positions into a range of innovative, yield-enhancing products with full reporting.

Challenges in Latin America

Restrictive environments make it much harder for treasury teams operating in Latin America, as in other emerging markets. These restrictions include limitations on the convertibility of local currencies, on cross-border cash movements, and on the ability to hold offshore and foreign currency accounts. Regulatory restrictions also apply to transactions between resident and non-resident companies. Debit taxes are imposed on operating and capital flows between different entities. Overnight investment options are frequently limited, or made impractical, due to investment taxes.

For all these reasons, multinationals have tended to leave it to local subsidiaries to make key treasury decisions. These responsibilities may have included local banking relationships, short-term borrowing and investing decisions, payables and receivables processes, and transactional foreign exchange execution, among other functions. The rationale has been that so much local complexity predicates decentralised decision-making.

However, there is a downside: when each entity makes decisions on a decentralised basis, the results for the parent company can include pockets of trapped working capital; cash deposited at local institutions with less than acceptable risk profiles; investments made in financial instruments bearing uncertain risks and accounting implications; and subsidiaries borrowing externally at a time when other entities may have excess cash.

Corporate treasurers are now focusing on solving these issues and creating value in Latin America and other emerging markets. One reason for this is that they have by now implemented efficient regional treasury structures and banking systems in the developed markets of North America and Western Europe, freeing up time to look at other opportunities. Another is that faster growth rates in the emerging economies – Latin America, Asia, and Eastern Europe – is increasing the importance of these markets for their companies’ business flows. Finally, good corporate governance, compliance and regulatory obligations have highlighted the need for corporate treasurers to closely manage the risks – by improving cash visibility and control, identifying and mitigating risks, and eliminating unnecessary transactional and financial costs.

Customising Approaches: US Dollar Liquidity Centralisation

This situation requires new approaches to be taken, tailored to the realities of these markets. One area of opportunity for many companies is to centralise their Latin American US dollar structures. This is now feasible as many Latin American countries are now gradually liberalising the holding of foreign currency and offshore accounts, and – with most intra- and inter-regional trade flows in US dollars – it is also well worth the effort.

The key steps include ensuring that intercompany and third-party invoicing is in dollars whenever local practices and regulations allow. Then, set up a centralized structure in the US, whereby the dollar flows are across non-resident bank accounts owned by the subsidiaries at the central location. By holding dollar accounts in the US – the currency centre – the company will benefit from the lowest possible payment fees, best value dating, latest cut-off times and service windows. For companies with significant foreign currency transactions, this can produce enormous benefits in cost-savings and funds availability.

Finally, establish a liquidity structure to use funding efficiently across the intercompany accounts. The liquidity structure can be one of several variations:

• Zero balancing accounts (ZBAs), concentrating all cash for simplified funding and investment through automatic intercompany loans; or,
• Notional pooling to ‘offset’ positive and negative intercompany positions without generating intercompany loans (however, banking regulations require that the entities execute agreements for joint and several liability for each others’ positions); or,
• Cash optimisation whereby entities’ positive cash positions are ‘virtually aggregated’ to provide enhanced short-term investing, without any intercompany offset or loans generated.

More broadly, such a liquidity structure can be integrated into a company’s global US dollar liquidity management and planning. For example, the Latin American accounts could become a component of the company’s global dollar pool, with US dollar accounts in Asia and Europe zero balancing daily into a liquidity structure in the US. This provides exciting opportunities to centralise US dollar liquidity globally. Of course, all cross-border liquidity structures have tax, legal and accounting implications. It is important for treasurers to work with the appropriate advisors to determine the most suitable structure for the particular situation and company.

Advances in treasury technology and in the cost-effective delivery of banking solutions are making centralised liquidity management a reality for companies in emerging markets as well as in mature markets.

¹BDRC conducted research into liquidity management services and transactional FX services with 101 global and regional treasurers of multinational companies (71 companies in Europe and 30 in the US and Canada). Interviews took place between April and July 2005. The research was conducted on behalf of ABN AMRO.