Five Tips for Efficient Liquidity Planning During the Financial Crisis
While the current financial crisis is affecting a host of companies in a variety of ways, the main concern is liquidity. There are a multitude of approaches to improving liquidity planning and finding the hidden millions within an organisation.
The best way to deal with a crisis is to be aware of the risks. A group”s liquidity concerns senior management, not just the group treasury. Indeed, a financial crisis like the one we are now experiencing provides us with the opportunity to understand the importance of managing liquidity.
There is a common misconception based on the belief that subsidiaries have their own money. However, since the management is actually responsible for every cent in an organisation, the group treasury has a key role in controlling all cash flows and positions. Below, you will find five steps on how to improve your liquidity planning:
Overall responsibility for group liquidity lies with top management. The group treasury needs to make the management aware of re-financing costs and liquidity risks, i.e. what will happen if you are unable to borrow money, or cannot get extensions on loans that are due.
There is a strong need for efficient communication between the management group, the group treasury and subsidiaries. Management must clarify how highly it rates liquidity issues. Each subsidiary is responsible for compiling forecasts, and their accuracy. In general, the group treasury keeps track of the total forecast at group level, and deposits the surplus or covers the deficit. However, it is important that the group treasury also shares information and gives the subsidiaries feedback. Accurate forecasts can provide subsidiaries with important information on the need to increase or decrease internal limits.
A common shortcoming among companies is the lack of an organised liquidity forecasting process. One reason for this may lie in inadequate, cumbersome cash planning: for instance, the company may use manual processes, it may not be possible to check the bank balances of its foreign subsidiaries and its forecasting may be inadequate. When forecasts are not updated sufficiently often, they cannot be highly reliable.
For this reason, the group treasury must implement a process for liquidity forecasts supported by top management and recognised by subsidiaries.
To further increase efficiency and minimise the number of external bank accounts, companies can also implement in-house banks. In-house banks have proven to be efficient, and as companies” confidence in external banks wavers, the popularity of in-house banks is unlikely to wane. However, in-house banks cannot be implemented in all territories, due to local legislation.
It should be noted that even internal payments could lead to a company needing to borrow money. For instance, if errors are made in the recording of value dates when making payments between group companies, the money remains “in transit”. Also, intra-group payments through banks result in transaction costs, even though the transition to the single euro payments area (SEPA) will reduce these. Efficient use should therefore be made of cash pools alongside an in-house bank, through which payments are handled on a centralised basis from a single location. Sometimes liquidity can also be weakened by legislative and tax barriers and other obstacles, such as withholding taxes on interest on cash transfers from certain countries.
The best way to avoid administrative and manual work is to create a system that retrieves information automatically in accordance with the process, while also creating updated reports. This benefit is provided by the integration of liquidity management and other financial administration systems, such as accounts payable and receivable, payroll and treasury. Furthermore, electronic invoice processing serves to boost the accuracy and timeliness of forecasts.
The liquidity process is good for the entire business, not only in crisis situations. When responsibility for, and the implementation of, the four points mentioned above has been determined, the job will become more rewarding and decisions will be based on a higher-quality analysis.
Today”s tight financial situation is helping us realise how important liquidity management is. For companies, this may be a matter of life and death. The most important steps in improving liquidity planning are clarifying responsibilities, communication, creating a liquidity management process and supporting it with reliable system solutions, and as a consequence improving analysis. When everyone manages their area of responsibility, there is no hidden money, only the effective allocation of all funds.