In a volatile and uncertain businesses atmosphere, cash and liquidity management can be a challenge both for day-to-day functioning and long-term operations. Liquidity management is the strategy designed to maximize and protect a company’s liquid assets.
As a foundational principle of sound commercial business operations, managing liquidity is a necessity whether the economy is booming or quavering. Best-in-class liquidity management gives company leaders full visibility into spend, cash, liabilities and other financial resources to enable quick and effective action at any time.
Whether you’re leading a $5 million or $500 million organization, it’s imperative for business owners to develop and practice sound liquidity management strategies.
Managing liquidity should be a priority for all companies. It gives a clear indication of financial health, and it provides visibility into how well a company can afford its current and future debts, short-term investments, obligations and spend with its liquid cash and assets at hand.
There are a range of benefits to putting a liquidity management strategy in place:
• Ensure full cash visibility across all accounts. Cash and liquidity management provides visibility into the status of your cash reserves and your operating cash flow so you can assess if you can meet your obligations, including debts, investments and spending.
• Gain a complete picture of your company’s financial health. Maintaining full visibility into your company’s cash position is a good way to judge the financial health of your business and discover whether you need to take action to mitigate risk.
• Reduce interest expenses or improve returns on investments. With Insight into where your assets are stored, you can review how they are functioning and use that information to make changes that optimize and safeguard your liquid assets.
• Enhance efficiency with strategic automation. Understanding the location and function of your liquid assets, as well as your operating cash flow, lets you see how automating your financial management can benefit your company.
• Moderate foreign exchange or counterparty risk. Maintaining a sufficient reserve of liquid assets is a primary way to mitigate risk when it comes to orchestrating transactions, particularly where foreign exchange is involved.
A liquidity management strategy has three main goals: gain visibility into cash flows and currency positions, maintain control over your liquid assets and optimize the yield from your cash. Your company’s organizational structure and corporate culture may influence how you set up your strategy. Here are some things to consider:
How your company operates will affect how you manage your liquid assets. Consider the expectations and priorities of your leadership, your company’s attitude toward risk, your level of treasury control and the robustness of internal communication. Leadership’s priorities and the company’s general position on risk will impact liquidity management strategy. For example, a CEO narrowly focused on growth may prioritize investing over keeping a large cash reserve. Similarly, a risk-raking culture will encourage a less restrictive approach to liquidity management. The treasury department’s level of control over the company's liquid assets is another factor of company culture that will affect liquidity management. And effective communication and collaboration between departments can help create an effective, coordinated liquidity management strategy.
You may need to change or enhance your financial infrastructure to enact good liquidity management. You should have an effective cash flow forecasting system in place to predict future cash inflows and outflows, and to help identify potential cash shortfalls and surpluses. Setting up such a system may require reviewing payment terms with suppliers and potentially setting up automated accounts receivable tools to streamline payments. You may consider implementing cash pooling by consolidating funds from multiple entities into a single account, which can help optimize your cash management and reduce borrowing costs. You should have a system in place for monitoring working capital and processes for assessing when short-term borrowing will be necessary. Adopting a risk management framework is also a good idea, as it can help you identify, measure and manage liquidity risks.
Your policies will play a part in managing liquidity. Your cash management policies, including guidelines for cash reserves, cash flow forecasting and cash flow management strategies, will dictate whether your cash on hand will cover daily operating expenses and short-term obligations. Your credit and investment policies can also affect liquidity management by reducing the risk of cash flow problems and managing how the company invests surplus cash. Effective internal controls can prevent fraud, embezzlement and other problems that could damage your liquidity. And budgeting and forecasting policies can help you anticipate your cash flow and your future needs and ensure that your liquidity strategy is well calibrated to these realities.
Cybersecurity is a prominent concern since liquidity management involves handling large sums and sensitive financial information. Companies must keep a keen eye out for fraud such as identity theft, phishing scams and ransomware attacks that can result in financial loss and reputational harm. Implementing robust fraud prevention measures to mitigate such risks should be a central element of any liquidity management strategy. These measures can include employee training, technological solutions and risk assessment activities. Companies must help their employees understand the level of risk and show them how to mitigate it with tools and practices such as two-factor authentication, limiting access to sensitive financial data and employing encryption technology.
Common liquidity management strategies include physical concentration, notional pooling and overlay structures. Each strategy has its own characteristics, benefits and drawbacks.
1. Physical concentration: This strategy involves consolidating your cash balances into one central commercial savings account so that all surplus cash is concentrated, transparent and easy to control. This option presents the opportunity to deploy extra cash strategically. This streamlined approach will not be a good match for decentralized companies. Additionally, it requires extra cost to handle foreign currencies.
2. Notional pooling: With notional pooling, your company maintains various cash balances in numerous accounts and currencies, and your bank combines all balances into a single net currency and total to calculate interest. You can use of multiple currencies without paying conversation costs, but this structure may be forbidden in some countries and may draw the attention of tax authorities in others.
3. Overlay structures: This strategy makes use of an “overlay bank” that acts as a superstructure to automate the concentration of balances from local banking institutions at the end of each day. A commercial business might choose this strategy to maintain relationships with local banks while getting the benefits of cash concentration. This option presents greater operational complexity.
It’s important to work with a trusted banking partner on cash and liquidity management regardless of which strategy you employ. You need a bank that understands the importance of cash-on-hand and has solid commercial savings accounts, especially if you’re a new business owner working hard to ensure success.
At Seacoast Bank, we are laser-focused on helping our clients manage their cash reserves effectively. We provide a range of cash management services and work with commercial businesses of all sizes on managing and optimizing liquid assets for stability and growth.
Connect with a Seacoast Commercial Banker today to discuss in detail how our liquidity management solutions can benefit your company.
Topics: Protect Your Assets
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