Accurate cash flow forecasts continue to be a challenge for many businesses and too few companies use sensitivity analysis for modelling future cash requirements. We believe that the level of forecast accuracy should be matched to the benefits that arise, for example, in ensuring compliance with debt covenant requirements or capital investment needs.
As corporate treasurers, we ought to create investment policies that separate cash into operational cash and surplus cash. The risk limits need to cover maximum values per counterparty, the expected level of return for a given risk and the strategic decisions on how much additional risk can be taken over greater time periods.
The financial turmoil has heightened the importance of counterparty risk assessments. We all know that the risks are significantly higher than they were five years ago and change on a weekly basis, making monitoring more difficult. How many businesses review their counterparty limits frequently enough to take action as soon as a relevant credit rating score is amended?
Many businesses use annual and quarterly forecasts, but often do not maintain an active rolling forecast. Rolling forecasts are important for trend analysis and timing of cash flows. They also provide forward-looking horizons that can facilitate pooling arrangements and netting forecasts, and aid tax planning.
Simplicity is the key to investment success. There is a wide choice of investment products and the aim should be to have a simple policy that can be easily implemented and monitored. Too many products will increase monitoring requirements and risk management effort unnecessarily. A straightforward approach will allow changes to be made if trends show reduced returns or increased risk.
Recent market developments have shown the importance of being able to make effective and efficient decisions. Financial reporting needs to highlight actual results diverging from plan. Exception reporting, frequency of reporting key performance indicators, counterparty risk and available cash balances all need to be considered in creating an efficient reporting structure.
Feedback loops are essential. It is vital to measure performance and variances to enable the organisation to take corrective action and manage returns, risk or liquidity. Monitoring needs to be automatic and made a priority so that it does not become routine and complacent. Authority should be delegated to the appropriate individuals to act on the information provided.
Dominic Jaques FCT is managing director of treasury, risk and cash management consultancy Tresauris. For more information, see www.tresauris.com Issue reference: The Treasurer October 2012