Head2Head: Risky Business

by Bruce Meuli, Global Business Solutions executive, and Jonathon Traer-Clark, Head of Strategy, Global Transaction Services, Bank of America Merrill Lynch

JTC If there’s one thing that’s certain in business, it’s that uncertainty is set to remain for the foreseeable future. Over recent years – and in particular in the UK, over recent months – we’ve experienced unprecedented levels of change and volatility that have significantly impacted on treasury. Today, treasurers are constantly tasked with managing so-called ‘risk events’. So how can the treasurer mitigate the impact and steer the business through these, whilst at the same time deliver on the expectations of the board and the wider business?

BM Indeed, recent political, business and market events have certainly been anything but ‘normal’ and in many cases, the news hitting the headlines signals significant shifts in the way that treasury operates. For example, treasurers have had to manage FX volatility which has been driven by unpredictable political outcomes in Europe. Not only has this required ‘transactional’ risk management responses to significant volatility, but these events also have the ability to over time, fundamentally change a business and will therefore require treasurers to review their operations and strategic models. For example, where do they locate treasury operations? Is their liquidity structure appropriate and fit for purpose? Treasurers are not only responding to risk events, but also managing fundamental changes in the business environment, which is somewhat outside the core definition of treasury risk management.

JTC It’s not just the range of events impacting on treasury, but also the pace of change. The speed at which information is distributed these days has accelerated and can mean that treasurers feel that their responses to events need to be more immediate than in the past. We have recently seen the costs of underestimating the probability of events occurring and the impact of not preparing for a range of outcomes. The recent EU Referendum outcome certainly caught some market and political participants by surprise.

BM So, as ever, the treasurer has to do more with less, but rather than focusing on cost, the problem is less time to anticipate and respond to change. This means treasury might want to redefine its role in the organisation and fundamentally review its ability to ensure the stability of operations and ‘business as usual’ within new levels of uncertainty. What should a treasury team do now? For me, there are three key questions to focus on: What could happen? What are the likely impacts? What would be an effective response?

JTC How about ‘Predict the future?’ If only…! With some possible exceptions, treasury is not in the business of taking risks on possible future outcomes. Treasurers normally feel that this should be left to those institutions who have defined this as their core business. For the treasurer, the priority is to understand possible risks and events that could impact on your business and treasury operations. You could develop a sophisticated statistical model but this is time-consuming and has little gain. More beneficial is to prioritise events by likelihood, severity of impact, and timing.

BM I agree – this doesn’t mean predicting exactly when an event could occur but rather over what period, with what warning, and what the response timeframe should be. For example, recent changes to banks and the markets they serve have caught many corporates by surprise. The likelihood of some banks having to change their business model was known – but the form these changes have taken, and the timing and extent of change were unexpected.

JTC Yes – the changing bank environment has indeed had a knock-on effect for treasurers. What’s been important though is their ability to respond to changes to their banking partners and infrastructure within a restricted time period and without disruption to operations. But at what cost – both directly and in deferred objectives? Going a step further – how many corporates were able to take the opportunity that changing banking partners presents not just to replace withdrawn services but to also make improvements?

BM This leads us to the second major action that treasury can take to manage the business in volatile and dynamic environments: that is, to build a strategic and operational capability to identify events early and respond effectively. It is not possible to plan for every eventuality but by having a capable ‘change ready’ operation, the likelihood of an effective response at minimal cost and disruption is increased, and potentially leads to a competitive opportunity. Treasurers could incorporate scenario-analysis and contingency planning into their strategic processes and operations, and could consider involving the full treasury team and key business partners, both internal and external.

JTC It can also be valuable to access expertise and resources from financial institutions and regulators to help manage risk more effectively. One of the key methods used to ensure that the markets are prepared for future eventualities is stress testing. This is a useful tool that can also be applied to a wide range of corporate resources, such as the availability of liquidity, treasury structures, systems, processes and human resources. Do you have adequately skilled resources that can focus on a major change event? Do you have contingent systems and processes to allow for continued critical processes such as payments? Do you have sufficient visibility of your processes, cash flows and exposures to identify issues early? Are your funding and liquidity sources adequate to manage the risks you have identified?

BM And let’s not forget strategic objectives. Can you support strategic business objectives whilst also managing the impact of key events and wider changes to the business environment? Are you so focused on ‘putting out fires’ that you miss a major shift in markets? In light of everything we have said, it is important to recognise that the development of an operational capability to manage the future is a balancing act. Treasurers could consider whether the treasury policy allows for a value framework for the assessment of risk that balances cost vs benefit, and outlines decision and approval processes clearly. The treasurer could consider partnering with the business and enterprise risk functions to ensure that treasury is aligned with wider risk management efforts.

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JTC Sure, but there’s also a benefit to the ‘multiplier effect’. A quality treasury operation with regular investment will over time, lower the cost of execution whilst improving decision-making and responsiveness. For example, retaining talent can be challenging at any time, let alone in periods of significant change. Removing manual, repetitive tasks through automation or sourcing alternatives increases cost efficiency, reduces errors and increases your ability to use data to identify trends and issues early. But just as importantly, it frees up your team to focus on planning and strategic tasks, helping to retain talent, and in turn, prepare for and respond to events.

BM I agree. There is also a great opportunity to capitalise on developments in big data, predictive analytics and business intelligence tools. In our experience, there are three points to bear in mind when managing uncertainty:

1. Don’t wait for an event or market shift to happen before you decide on how to best act – by then it is either too late or the cost of response will be great and limited in effectiveness: anticipate and prepare.
   
   
2. Spend more time on developing your operational capability to respond to a range of possible or unforeseen events than on trying to predict the future.
   
   
3. Get the basics right – strive for operational excellence and strategic relevance.

TMI Comment - by Helen Sanders, Editor

Jonathon and Bruce’s commentary in this edition has rarely been more timely. A key point is that treasurers are not tasked to predict the future, but to prepare for different eventualities. The result of the Brexit referendum was a case in point. In this situation, treasurers’ role was not to predict ‘Leave’ or ‘Remain’ but to be prepared for either result. Many did, but some companies found themselves, and their customers and suppliers, unprepared for the outcome. The events envisaged by Bruce and Jonathon do not only include the headlines or trending issues on social media, however. Many corporations have been affected by bank exits from specific markets or product lines, creating a risk to business continuity given that these have often been markets in which there are few choices of banking partner. Operational risk, as well as market risk, creates another key dimension. Fraud and cybersecurity are also major risk considerations for treasurers to anticipate, requiring watertight policies, processes and employee education. While the ‘doing more with less’ message resonates across most organisations, and indeed most business functions, treasury’s critical role in managing risk and compliance has made the need to reduce time on operational tasks and direct resources in these areas more important than ever.