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Chapter 8 – Cash Management and Forecasting

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1 Chapter 8 – Cash Management and Forecasting

2 Have you seen this?

3 Chapter 8 ties it all together and represents what CTP is really all about
Chapter 3 – Managing Relationships with Service Providers Chapter 4 – Financial Accounting and Reporting Chapter 7 – Working Capital Tools Chapter 10 – Payment Systems, Collections and Disbursements Chapter 11 – Money Markets, Short-Term Investing and Borrowing Chapter 12 – Capital Markets Chapter 14 – Capital Structure and Dividend Policy Chapter 15 – Operational and Enterprise Risk Management

4 Primary objective: Establish closing cash position
Plan daily borrowing or investment decisions Why? Obtain most favorable investment returns and yields Meet notification deadlines on borrowing requirements Accommodate critical or priority funds transfers Properly plan maturities in investments and borrowing

5 Determine daily cash position:
Primary objective – plan the day’s borrowing or investment decisions based on projected closing position – shortfall or surplus? Make decisions early in the day – to obtain best investment returns/yields, meet borrowing notification deadlines, fund for important transfers, plan maturities in investments and borrowing. Daily cash position – time-critical, need accurate and timely information, delays in receiving balance and transaction info possible, sometimes using late-closing MMMF or sweeps.

6 General objectives of cash management:
Maintaining liquidity Optimizing cash resources Minimizing cost of short-term borrowing Managing risk and return on short-term borrowing Preventing fraud relating to cash management transactions

7 Process considerations:
Organization’s industry, size and structure Current legal and regulatory environment Current payments system Available payment instruments Design and operate a process that best suits the organization’s needs

8 Purpose of liquidity (4 reasons) – short-term investments or borrowing:
Transaction requirements – inflows and outflows Precautionary requirements – unplanned cash outflows Opportunistic requirements – funding sudden opportunities Regulatory or covenant requirements – required liquidity (ex: insurance or securities) or balance requirements (ex: loan covenant agreements) What is proper level of liquidity?

9 Purpose of Stress testing:
Contingency funding plan – stress test of short-term liquidity Assume adverse change in funding sources or shock to core business – examples Should be performed at least annually Changes could affect borrowing facilities (loss of or cost increase) Changes could affect credit ratings, violate loan covenants, or cause default on credit Test loss of revenue for period of time due to crisis Forecast firm’s capacity for cost-effective debt or cash reserves to survive adversity

10 Short-term financing to meet cash needs:
Debt used to meet temporary cash needs – one year or less Three primary sources – spontaneous trade credit, sale or factoring of A/R, borrowing arrangements Borrowing – banks, finance companies, or issuing short-term debt securities May have option of internal borrowing from subsidiaries Considerations required – careful planning of current and future credit needs, determining short-term financing objectives, setting overall strategic objectives regarding financing needs

11 Three forms of pooling in global concentration of funds:
Notional pooling – all company’s subsidiaries use same bank, usually in same country, and all account balances are summed for purpose of calculating interest Physical pooling – use of a single currency per account and balances are physically transferred into main account (header account) daily, company must keep records of all transfers, interest earned, and investments, can be cross-border since single currency per account, but cross border pooling expensive and complex Bank Overlay Structure – combines both sweeping and pooling, typically used when company’s primary bank (overlay bank) has branches (but not full banking services) in other countries, local bank accounts provide collections and disbursement, but sweep funds to primary bank; primary bank can use notional or physical pooling, provides a multi-country solution

12 OTC/field deposit systems in USA:
A business’ field locations (local offices or branches and retail stores) collect receipts. Retail POS accepts cash, checks and payment cards. A vendor’s office may receive checks or cash from customers or agents. Or, a payee or agent might pick up cash or checks from deliveries to customers. Field accounts at local depository banks offer convenience, security, and more readily available funds. Field location deposits can be delivered by employees or using courier services. Remote Deposit allows organizations to scan and image checks, then transmit the deposit to financial institution or Fed Reserve, clearing the items electronically. Card payment accepted are usually transmitted electronically, with final settlement credits posted directly to the local depository bank.

13 Virtual vault services:
Utilize armored car or courier services to replace or enhance physical bank branch locations Deposits delivered directly to organization’s bank or another clearing point (Fed Reserve or branch bank) Offered by banks or third-party non-bank companies Many offer immediate funds availability Service may include “smart safe” – verifies cash as deposited into safe Attractive to retailers or other geographically incongruent locations Manage deposits and currency for remote locations – pick-up cash/check deposits and deliver currency and change for cash registers Provides deposit reporting and verification

14 Methods of transferring funds in cash concentration system:
Most common concentration methods in USA are electronic depository transfers (EDTs) and wire transfers. (1) EDTs are Automated Clearing House (ACH) transactions that concentrate funds using CCD or CCD+ formats. ACHs are inexpensive and usually settle in one business day. (2) Wire transfer (Fedwire in USA) is alternative used for same-day funds transfers, usually processed using repetitive wire instructions. Wires provide immediate funds availability and are helpful to reduce excess balances in accounts. Wire transfers are expensive and are useful to move large dollar transactions with same-day value and finality.

15 Formula to determine break-even to justify Wire over ACH:
Minimum Transfer = (Wire Cost – ACH Cost) / (Days Accelerated x (Opportunity costs/365)) Sample test questions: Keegan’s is contemplating expanding their use of a newly implemented ACH payment platform. They are currently paying $8 for each wire transfer. The cost of an ACH transfer is $.50 and the funds settle on the next day. Keegan currently earns 2% (opportunity cost) on their overnight funds. What is the break-even to justify using a wire over an ACH transaction transfer amount? (A) $127,750 (B) $136,875 (C) $180,000 (D) $182,500 Calculation: ($ $0.50) / (1 x (.02/365)) = $136,875 Realistic today: ($ $0.50)/(1 x (.0010/365)) = $1,642,500

16 Costs of cash concentration systems to be considered:
Excess balances – When an account’s average collected balances is greater than the compensating balance required by the depository bank or is greater than the target level of the company Bank charges – Banks may assess fees for almost every service used (examples). Earnings credits from balances may be used to compensate for bank fees. Other vendors used to assist in concentration may also assess fees (examples). Administrative costs & responsibilities – Company’s costs to operate a concentration system (examples).

17 Objectives of cash forecasting:
Liquidity management Financial control Meeting strategic objectives Capital budgeting Managing costs Managing currency exposure

18 Five steps in forecasting process:
Forecasting horizons Short-term financing Medium-term financing Long-term financing Cash flow components Degree of certainty Data identification and organization Selections and validation of the forecasting method

19 Degrees of certainty when developing cash forecasts:
Certain flows – interest and principal repayments, dividends, taxes Predictable flows – collection of credit sales, disbursement for payroll and benefits, vendor check clearing patterns Less predictable flows – sale of new product, unexpected repairs, legal litigation

20 Data identification and organization
Information sources – internal and external, cash forecasting software Identification – centralized or decentralized company Account structure – bank accounts, concentration, controlled disbursements, ZBA Reporting requirements – useful data, accuracy, timely Historical data – predicting based on prior periods


22 Testing and validating forecasting model(s):
In-Sample validation – predicting data series from historical data, no data available for new models Out-of-Sample validation – using data not used to develop model, projecting forward Ongoing validation – projected versus actual Document the process – allows others to understand

23 Types of forecasting methods:
Short-term methods – expected receipts and disbursements, effect on cash flow Receipts and disbursements forecast – prepare separate schedules, cash vs. accrual Distribution forecasts – daily impact of event over specified period based on historical patterns, simple average or regression analysis Medium- and Long-term methods – using internal accounting data and financials Statistical forecasting – using past trends to predict future patterns

24 Types of statistical forecasting techniques:
Time series forecasting – serial chains of values for variables, uses statistics Simple moving average – rolling average of past values for a series Exponential smoothing – weighting by use of smoothing constant, calculated using computer software Correlation and regression – involve degree of association, single variable or multiple variables

25 Purpose of closing cash position:
Cash manager’s function – (1) mobilize funds to arrive at the closing cash position and (2) provide timely and accurate reports to optimize use of available funds Projected closing cash position = opening available bank balance(s) + expected receipts – expected disbursements Receipts – Deposits (lockbox deposits, remote deposit capture, virtual vault services, OTC), ACH collections, incoming wires and transfers, concentration accounts (retail or field locations) Disbursements – Checks paid (controlled disbursement funding, estimated non-ZBA checks) ACH payments, outgoing wires and transfers, virtual vault services (currency or change for cash registers) Usually best to use some type of cash position worksheet – Excel, Treasury workstation, bank software

26 Internal control issues:
System of checks and balances Monitoring transactions, cash flows and information within organization Matching process – (1) looks for possible errors in amounts, prices and other provisions (EX: Invoice => Original P.O. => Agreed terms => Receiving records => Order received (2) compare amounts deposited with sales/field records and determine whether transactions are authorized Segregation of duties – important to keep functions for collections and disbursements of funds separate. In addition, separate approvals, authorizations and verification functions. If staff size limitations prevent segregating responsibilities, consider outsourcing.

27 Minimize risk of bank failures:
Monitor creditworthiness of each bank in organization’s concentration process. Great Recession of – almost 150 banks failed in USA, primarily smaller community banks often used in retail/field deposit systems. Greatest risk if company’s main cash management bank fails.

28 Questions or Discussion?
Contact info: Grace Kramer Texas Association of School Boards, 12007 Research Blvd., Austin, TX Phone:

29 Sample test questions:
1, Disbursing all cash outflows via a single ZBA is an example of which forecasting factor? (A) Historical data (B) Reporting requirements (C) Account structure (D) Information sources 2. A company’s payroll for the next 3 months is an example of: (A) Less predictable cash flows (B) Certain flows (C) Long-term forecasting (D) Predictable flows 3. The most important reason for cash forecasting is: (A) Managing costs (B) Capital budgeting (C) Liquidity management (D) Managing currency exposure

30 Sample test questions:
4. Which of the following activities is an important element of the cash flow timeline? (A) Purchasing raw materials and/or finished goods (B) Developing annual sales goals and projections (C) Reviewing the positive pay exception report (D) Automating the daily cash position worksheet 5. On Friday, the manager of a sporting goods retail store made a wire transfer to the main operating account based on his weekend sales projections. He is using: (A) Deposit anticipation. (B) Availability anticipation. (C) Threshold concentration. (D) ZBA structure.

31 Sample test questions:
6. What is the most effective way to combat ACH Kiting? (A) Dual verification of disbursements (B) Proper firewalls (C) Positive pay (D) ACH debit block 7. General control and fraud prevention measures should include which of the following: (A) Combining authority for collection and disbursement (B) Reviewing and reconciling bank statements annually for the auditors (C) Allowing all employees access to company master files (D) Using payment authorization services similar to positive pay

32 Sample test questions:
8. A global company’s main cash management bank has branches that are unable to provide all of the banking services needed by the company in foreign countries. The company’s best option is to utilize: (A) Notional pooling (B) Bank overlay structure (C) Virtual vault services (D) Physical pooling 9. What best reduces the risk of internal fraud: (A) Implementing positive pay (B) Separating disbursements and account reconcilement duties (C) Payee verification (D) Blocking unauthorized ACH debits

33 Sample test questions:
10. Opening account bank balance plus expected settlements minus projected disbursements equals: (A) Check float (B) Account analysis charges (C) Moving average account balance (D) Projected closing cash position 11. Cooperation with purchasing, accounts receivable, accounts payable, risk management, pension management, auditing, tax and general ledger are all required for effective: (A) Collaboration. (B) Information sharing. (C) Cash management. (D) Resource planning.

34 Sample test questions:
12. A treasury analyst uses a computer program to find the alpha value weight. Which cash forecasting methodology is she using? (A) Exponential smoothing (B) Receipts and disbursements (C) Simple moving average (D) Distribution 13. A cash manager compiling a cash forecast starts by projecting the income statement and balance sheet. He is most likely using which method of forecasting? (A) Receipts and Disbursement (B) Distributive sales (C) Short-term borrowing and investing (D) Percentage-of-sales

35 Sample test questions:
14. A startup company is developing their new cash forecasting model. Which method would be most useful for them to test their model? (A) Ongoing validation (B) In-sample validation (C) Out-of-sample validation (D) Documentary validation 15. The PRIMARY goal of Treasury is to: (A) Manage receivables (B) Maintain investments (C) Utilize cash efficiently (D) Maintain credit ratings ANSWER KEY:

36 Good Luck with CTP Exam! ANSWER KEY:
1-C, 2-D, 3-C, 4-A, 5-A, 6-B, 7-D, 8-B, 9-B, 10-D, 11-C, 12-A, 13-D, 14-B, 15-C

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