Efficient Cash Flow Forecasting – a Best-Practice Guide
by Mary Ann Rydel, Director of Product and Consumer Support, Hanse Orga International Corp.
There is great potential for corporations to increase financial performance by optimising their cash flow forecasting. Analysis within our client community highlights that through the implementation of best practices, organisations know exactly where their cash is, are able to optimise their cash, and can manage liquidity risk more effectively. Specialised technology helps corporates to leverage significant efficiency gains. Manual tasks in the collection of data and in reporting are reduced through highly automated processes, and corporations achieve true global visibility of their cash and forecasting objectives.
Why focus on cash flow forecasting?
During the financial crisis, corporations learned, some the hard way, the value of placing more emphasis on effective cash and liquidity management. In times when the banks became increasingly restrictive in their lending policies in providing cash to corporations for smoothing any gaps in their cash flow curve or for investing in business development, corporations instead had to turn to their own resources and eke out every free penny. In order to mobilise their own resources, corporations need to have reliable data representing their actual and expected cash position. Thus, if companies achieve greater efficiency in their accounts receivable and payable processing, they are laying a solid foundation for a strategic liquidity management structure: the more clearly they know where their cash is and what their cash requirements are over a certain period of time, the better they can steer their corporate ship through otherwise murky waters.
Without efficient cash flow forecasting, companies cannot analyse, track, and manage risk exposures that continuously challenge treasury. Maintaining optimal levels of liquidity is crucial for ensuring the continued success of a corporation. If companies have too much unused cash lying around in bank accounts or even in corporate in-house accounts, they will lose out on interest earnings and may even have to pay interest fees for external capital. If, however, corporations continuously operate under their minimum liquidity requisites, the consequences are worse and they risk bankruptcy or foreclosure.
Securing corporate liquidity
Although not all corporations can be measured by the same means, it can be said that companies with a solid liquidity reserve are in a stronger position to get through financial demands than those without sufficient reserves. Having suitable cash in the appropriate currency to meet obligations at all times is one of the key strategic aims of a corporation to secure sufficient liquidity in order to safeguard business operational demands. An efficient and company-wide cash and liquidity management is crucial in achieving this objective.
Optimising working capital management
Effective cash and liquidity management is again at the top of the corporate agenda. Corporations had to revert to their own internal resources to get through the crisis. Tracking and optimising internal resources continues to prove to be a successful initiative in reducing the dependency on external funding and counter market challenges. The first key priority is to understand clearly how much liquidity a company has across all accounts, globally; this baseline will determine optimisation potential for using cash more effectively and streamlining internal processes. As a result, working capital will be optimised: deficient accounts of one corporate subsidiary can be offset with the surpluses of another subsidiary, and surpluses can be invested – not just in short-term solutions but also in more strategic long-term solutions. By optimising overall working capital management, corporations will also achieve the second key target of efficient cash flow forecasting: reducing the costs that are related to retaining high(er) levels of liquidity.
Getting the optimal level of liquidity right
Keeping the balance between too tight or too high levels of idle cash is one of the key challenges of liquidity management. A cash reserve is always necessary to cover the company’s overheads, to meet credit rating requirements, and to provide a buffer for investments as well as any unforeseen events. While it is a pretty straightforward matter to measure the liquidity requirements for purchases, overheads and credit ratings, it is more complex to plan liquidity requirements. Events such as unexpected market dynamics, natural disasters or political instability are highly uncertain variables which are highly difficult to predict. However, a cash-flow based liquidity plan could incorporate many of these uncertainties, even the unpredictable events, by leveraging best, worst and average case scenarios.