Cash & Liquidity ManagementCash ManagementChanging Risk in Corporate Treasury

Changing Risk in Corporate Treasury

Post-crisis, cash and working capital management have escalated in terms of importance for corporate treasuries. There has also been a striking change in the approaches to counterparty risk limit management, with growth in the monitoring of market-sensitive indicators such as bond yields, equity prices and credit default swap (CDS) spreads as an emerging interest among corporates.

In terms of time spent daily, the treasurer’s interest in enhancing cash visibility is a major priority and it typically takes 40% to 60% of their attention. Treasurers are anticipating an even more significant investment of time and effort over the next few years in several business areas generally relating to liquidity and working capital management.

Coupled with the emphasis on liquidity is the focus on enhanced counterparty risk management. It is anticipated that there will be significant increased investment in managing counterparty risk over a three-year time horizon. Most of the corporates have already recognised that they need to have a strong solution in place for counterparty risk measurement and management.

Visibility of cash and counterparty risk are two areas that require strong supporting technology to deliver best practice solutions. In the case of cash visibility, this is primarily because of the need to assemble and analyse data from a disparate number of sources, and to present this data in a timely and practical fashion. Risk management makes relatively heavy computation demands, for example in the valuation of exposures. In both cases, the underlying justification for making the necessary technology investment is the reduction in critical risks, whether related to diminishing liquidity or to exposure to counterparties with collapsing creditworthiness. The current trend in treasury technology has been to develop solutions that cater to such needs.

Cash Management

Cash visibility essentially requires the ability to compile and maintain an accurate cash position and forecast. The components of a cash position are derived from current bank account balances and the reported actual transaction flows, as well as the impact of treasury transactions and often of the committed commercial flows through integrating accounts payable (AP) and receivable information.

There is currently an elevated interest in improving the methods of obtaining bank account balance information. Many corporates tend to rely on a range of balance reporting techniques that are of varying degrees of dependability. The situation is complex because typically they operate multi-banking arrangements, for relationship and liquidity reasons, as well as to fulfill the requirements for certain banking needs, such as tax payments to be done through local banks. There is increasing interest in streamlining this process in multi-banking environments, with a tendency to adopt more robust solutions – such as SWIFT, the use of bank overlays or of third party overlays. Some organisations have been taking the simpler path of cutting down the number of banks and bank accounts with which they work, to reduce both costs and complexity.

After the financial crisis, the level of cash visibility in organisations has increased. Talking to treasurers, it seems that while there may not be an economic case for achieving 100% visibility there is a growing consensus that a figure above 90% is valuable and achievable.

Full cash visibility adds the dimension of forecasting to the certainties of the cash position. The value of forecasting is a subject for continued debate. It is often the case that otherwise well-automated companies still struggle with spreadsheets for forecasting, and consequently make do with a solution that can fall short in terms of robustness and reliability. More corporates are realising the needs of forecasting as a ‘most important development’ – in fact, it has become the main priority. It seems that the importance of forecasting in achieving fully-effective cash management is encouraging companies to actively investigate the means to achieve best practice in this area over the coming years.

The emphasis of cash visibility has also translated to corporate interest in the general enhancement of bank account administration processes. This represents a logical future extension of the cash visibility issue: having a reliable central understanding of the organization’s bank accounts – the number of accounts and their locations – increases the dependability of information on the cash position. Secure bank account management additionally reduces the enterprise’s level of operational risk, as the current status of authorised signatories is properly and transparently controlled. Furthermore, strong central control of bank accounts enhances the quality of counterparty exposure information.

The ideal bank administration solution for corporates addresses three areas: the maintenance of a central registry for bank account information, the adoption of a controlled workflow for opening and maintaining accounts, and achieving streamlined and secure electronic processing.

Counterparty Risk Management

Corporate treasury counterparty risk management was almost exclusively based on classic credit ratings prior to the financial crisis. The primary driver for improving counterparty risk management is that credit ratings alone were proved to be an inadequate tool for analysing an organisation’s creditworthiness on a day-to-day basis.

After Lehman Brothers’ collapse in September 2008, the focus has been on diversifying the tools that are deployed by corporate treasuries to use more market-sensitive indicators to evaluate counterparty creditworthiness and supplement credit ratings. Examples include monitoring counterparties’ equity and bond prices and indices, and also the relevant CDS spreads. The use of such fast-moving indicators will continue to increase and become a generally accepted treasury operations best practice in the near future. The practical application of enhanced counterparty risk management naturally extends to counterparty limit allocation and management to take advantage of real-time market tools.

The full evaluation and management of a counterparty exposure requires that every component is actually included in the calculation. This means that items such as bank account balances and equity and bond investments should be added into the more traditional components of time deposits, foreign exchange (FX) deals and derivatives.

The Importance of Technology

Treasuries are often supported by ‘islands of technology’, where specific solutions might be used to fulfil specialist requirements such as treasury accounting, hedge accounting, risk management and bank relationship management. At least in those treasuries that manage a relatively significant level of financial risk – perhaps with respect to liquidity, FX or counterparty exposure – such solutions may be seen to fall short of the ideal in terms of dependability, response time and robustness. If a rapid response to questions such as “what is the organisation’s cash position?” or “what is the global exposure to counterparty X?” is needed, the new technology solution requires a single central database and system, with the database – and key information displays – being updated automatically when new information is input, uploaded or detected. Such technology must provide the information in real time if needed, or at least on demand.

It is often only when a crisis emerges, and treasury departments are put under intense pressure to produce instant and up-to-date reporting on the organisation’s liquidity or counterparty exposure position, that the real quality of the supporting technology is actively tested. In preparing for the unforeseen, the treasurer must be confident of the quality and dependability of the organisation’s technology before its weaknesses are exposed by the demands of a crisis response.

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