Cash & Liquidity ManagementCash ManagementCash ForecastingIt’s Liquidity Management, Not Cash Forecasting

It's Liquidity Management, Not Cash Forecasting

More and more corporations are putting cash forecasting in focus and are trying to improve their forecasting procedures. Today, most treasurers use spreadsheets for forecasting. The problem with this is well known and has formed the subject of many previous articles. In short: spreadsheets generate many errors, are dependent on the persons who created the model, there is no audit trail and it is almost impossible to follow up the quality of previous forecasts. System support can address all of these issues, but it would be a mistake to take a spreadsheet forecast as a starting point when automating the forecasting process. Obtaining high-quality forecasts is not a system issue but a process one. Moreover, to obtain the full advantage that a system can render, you need to address this question from the process perspective and question current procedures.

When examining your forecasting procedures, you should acknowledge that this is not only a question of forecasting cash flows, but a much wider issue including current balances, past cash flows, overdue invoices, banking relationships, financial policies and so on. Setting up an efficient forecasting process is therefore not only about cash forecasting, but rather about liquidity management.

Figure 1: Different Processes Affecting Liquidity Management

Cash Flows – Where and When?

Ask any CFO if their company has a focus on liquidity, and they will certainly say yes. Ask them how good their liquidity management is, and they will refer to figures in annual reports or other aggregated material. Ask the treasurer the same question, the answer will probably be longer and different, probably referring to banking relationships, account structures, the use of funds etc.

Liquidity management is a diversified term that can be hard to grasp. When addressing the forecasting issue, you need to see liquidity management in the wider perspective and take a closer look at cash flow related company functions and policies.

Cash flows

The basis for the forecast should be where and how the cash flows occur in the organisation. The basis of how cash flows occur is the underlying business processes. The cash flow related process can be divided into two groups, commercial and financial. Figure 1 shows how the different processes are connected to cash flows and how the forecast is affected by the process, which should be compared with the outcome. This is still on too high a level to obtain a useful cash forecast. What is needed is information on where and when cash flow occurs and the ability to use this information for e.g. intercompany lending and extending investments.

Banking relationships and cash pools

Next, you need to evaluate whether the banking relationships and account structures are supporting your management of liquidity in an efficient way. Without the correct account set up and the right organisation of access to accounts, the forecast will be less valuable. There are two reasons for this. First, it is difficult to forecast cash flows in a diversified account set up. Second, it is difficult to manage cash, even if you have accurate knowledge of where it is located, if you cannot use it properly. Hence, the evaluation of the bank account structure is vital to improving liquidity management. The forecast also needs to be adapted to the account structure set up. In combination with how the cash flows occur, the account structure forms a vital basis for how the forecast should be set up.

Internal cash flows and netting

Large volumes of intercompany cash flows can be too complicated to handle in forecasting. On an aggregated level, intercompany cash flows are of little interest, but if you would like to forecast positions on cash pools, you need to adapt the forecast set up and forecast process to handle the intercompany flow in a structured way. A ‘netting’ principal can be used where one of the subsidiaries’ reported flows forms the basis for both sides of the payment, e.g. reported flows from the paying party will automatically create a counter transaction for the receiving party. Without the use of this principal, there is a risk that you will obtain different reported figures from the different subsidiaries and a forecast change on the summary account that will not occur.

Payment methods

The method of payment will affect how easy it is to forecast cash flows and how the forecast should be set up. If large volumes of cash flows are cash or card-based, it will be more difficult to obtain an accurate forecast than if the sales are invoiced, as invoiced sales can be predicted using the information in account receivables.

Management Attention and Organisation

Support from management as early as the set-up phase of the forecasting process is essential. Without support, there is a high risk that the activity will not be accorded the required priority by the participants or that the right people will not be involved. On many occasions, accountants perform the reporting that forms the basis of the forecast. However, they may not be the right people for this job since their daily work is focused on events which have occurred. A controller might be a better participant, since a controller probably has a better understanding of the concepts of liquidity management and forecasting.

Support from the management and the choice of the correct participants are vital to achieving quality in the forecast work. It should be borne in mind that the time used for forecast work should be limited and not take up too much time as participants have many important tasks.

Feedback and Involvement

For reporting units, gaining an understanding of cash forecasting and its importance can be difficult, and without such an understanding, good input is hard to achieve. One way of improving understanding within reporting units is to allow them to obtain feedback that is valuable to them. System support can allow subsidiaries greater participation in the forecasting and liquidity management process than merely providing input. A flexible web interface can facilitate such a need for feedback in many ways. If subsidiaries are given information on subjects such as cash position, forecast flow, intercompany loans and overdues, this will make them involved and help them understand why forecasting and liquidity management is important. As a result, the use of liquidity will be improved, e.g. intercompany lending will be lower, since the subsidiary can see what funds it needs and when. Also, due to the subsidiaries’ ability to follow up on their progress in forecasting, the quality of forecasting will be better for both – the treasurer and the subsidiary.

Flexibility and Adaption to Your Needs

All organisations are different and when it comes to liquidity they differ in many ways. Cash flows occur in different forms: cash, checks, bank payments on the basis of invoices, direct debits, the set up of account structures differs, types of outgoing payments differ, levels of overdues differ, and the volume and size of payments varies from company to company. All of these factors need to be taken into account when evaluating what you want to follow up. It is vital that system support is flexible and can meet different needs, and that you use the collected and analysed data in a flexible way. A reason for many companies hesitating to replace spreadsheet-based forecasting with system support is flexibility in analysing data. It is therefore important that when switching to the system-supported process, this flexibility is not lost.

Learning Process

Forecasting is a learning process in which you should continually try to improve. To be able to improve, you need to follow up on your previous forecasts and compare them to real figures. This should be done both on an aggregated level and for each reporting unit. The treasury may have a coordinating role, but the reporting units should perform the actual investigations of errors and discover the reasons for any deviations in the forecast.

Figure 2: Forecasting and Follow-up by Subsidiaries

Choosing the Right Technology

Automating the cash forecasting process can be performed in different ways, and there are several different types of systems to choose from. The three major categories of system support are the forecasting module in the ERP system, a standardised forecasting system and a customised forecasting system. There are pros and cons to every one of these:

ERP systems

Benefit – ERP system includes integrated functions and thus may be easy to implement. However, this requires that a common ERP is used by all subsidiaries.

Drawbacks – Flexibility is normally limited, since ERP systems are not specifically built to support a forecasting process. Most organisations use several ERP systems, limiting the above benefit. Integration with other systems may be costly or impossible.

Customised systems

Benefit – Can be adapted to each company’s specific needs.

Drawback – High cost due to tailoring. Also, flexibility is limited to changes from time to time.

Standardised system

Benefits – Built to support the liquidity management process and usually integrates with multiple ERP systems.

Drawbacks – Additional system with own version management and system administration generates costs.

It is easy to simply automate your current process without exploring the possibilities offered by the technology. Similarly, it is easy to misjudge a system and end up with one that does not fulfil all needs and future needs, and thereby restrict the development of the forecast process when the implementation project has ended. Therefore, it is important to ensure that the standardised system does not set restrictions on what the organisation is trying to achieve by implementing it. It is especially important to ensure that flexibility in the standardised system meets future requirements.

In addition, using professional financial consultants is recommended when evaluating system support for cash forecasting. A consultant can also provide vital input on improvements in the liquidity management process that might be needed in preparing for the implementation of a cash forecast system.

Forecasting – Before and After Implementing an Automated Process

After identifying all of the processes affecting liquidity management, it is possible to achieve the goal of an automated system supported process. With automation, you can easily collect data from different systems in a single database, and your time can be spent on analysing data instead of aggregating and consolidating it. The differences between manual and system supported forecasting processes are illustrated in Figures 3 and 4.

Figure 3: The Manual Process
Figure 4: The Integrated Process

From Cash Flow Forecasting to Liquidity Management

When integrating ERP and financial systems into a central database, you can obtain more benefits than forecasting cash flows. For example, if all open invoices are consolidated into one database, this can provide you with the opportunity to analyse overdues at group level. In many cases, overdues can increase as cash pools are set up. One of the reasons for this is that it may be easier to ask the treasury for an internal loan than putting pressure on a customer to pay on time.

Other examples of issues that can be analysed are volume of invoices, size of invoices and peak times of invoices. Without integration, it is difficult to perform such an analysis, since you need to collect data from different ERP systems in order to obtain figures for all subsidiaries.


Setting up a forecasting system should always be examined from a liquidity management process point-of-view. Process perspective is important, because forecasting is not isolated but dependent on other processes in the organisation. The first step is to review the nature of cash flows in the organisation, the second is to involve the management and reporting units and the third step is to choose the most suitable system that is also flexible enough for future needs. Also, when integrating systems into a central database and automating the process, you can obtain more benefits than just forecasting cash flows.

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