Best Practices in Cash Forecasting

Cash forecasting is extremely vital to banks for funding day-to-day operations and meeting long-term investment objectives. However, in the current economic and regulatory environment, it is all the more important for cash-rich banks as well as cash-poor ones.

Along with having the appropriate technology, which can help to streamline the cash flow forecasting process, possessing the right disciplines and processes are also necessary. No forecast will have 100 per cent accuracy and thus, it is necessary for banks to have as accurate, consistent and relevant model as possible in place.

Steps for Better Cash Flow Forecasting

The following are ten steps that can result in better cash flow forecasting:

Keeping an eye on the big picture

It is important for banks to be aware of their strategic direction as well as details, such as future capital expenditures, tax payments, etc. These are essential components that banks need to incorporate in their forecasting model. However, quite often the forecast may accurately predict the bank’s receivables and purchasing figures but the forecast will fall short if the treasurer fails to know that a US$75 million acquisition is planned in two weeks’ time.

There is also a need for regular communication with the bank’s entire forecasting team for achieving the right level of detail. Such effective communication can help in attaining accurate forecasting that can be easily understood and communicated to senior management.

Knowing the bank’s infrastructure

A bank’s infrastructure, whether centralised or dispersed widely, may differ according to the bank’s approach to forecasting. In addition, the bank’s internal and external systems and the entire account structure can affect the cash flow forecasting exercise. For a bank possessing an Enterprise Resource Planning (ERP) system, IT will play a vital role in extracting the required data and feeding it into the forecast.

For a bank with a decentralised account structure, the emphasis will be on gathering data from the right people around the world and entering it into a central repository, whether that is carried out using a treasury management system or via shared spreadsheets. Both types of tools can be applied to achieve a better understanding of the bank’s cash flows.

Treasury management systems can centralise and incorporate large amount of information, some of which may be limited, and thus spreadsheets can be a vital tool in customising to the bank’s specific reporting needs.

Integrating systems and technology platforms

Quite often, growth is driven by acquisition, especially international growth. While ERP capabilities are aiding to centralise information, acquisitions lead to differences as they comprise a variety of local banks and a host of various platforms. Hence, it is essential to quickly integrate new acquisitions into enterprise systems and platforms in order to streamline processes and enhance information flows and visibility.

In addition, the banking structure needs to be integrated quickly to enhance cash visibility. A standardised global model enables a bank to automatically upstream its cash where appropriate into a centralised hub and then apply it across any territory.

Having the right banking structure

Banks will need to take into account their geographic footprint as well as the currencies in which they operate. Rationalising banking and account structures and enhancing straight-through processing rates can streamline the cash flow forecasting process and yield more accurate results.

Moreover, liquidity management structures, such as zero-balance accounts and notional pooling, enable banks to offset credit and debit balances, which indicate inaccuracies, may arise. Cash pooling structures also minimise the overall credit lines required, whereas a decentralised structure may need credit lines in place for each of the locally operated accounts.

Classifying cash and label bank accounts

It is important for banks to understand where they have cash and whether there are any restrictions on it. By labelling every account with parameters around the country it is located in, whether there are any forex restrictions, and the tax status, they can not only estimate the cash, but also know how liquid it is.

Foreign currency restrictions in a specific country may prevent banks from mobilising cash, and the local tax regime may affect the amount of cash actually available. Moreover, segmenting investment cash into tiers, such as operating, reserve and strategic can effectively provide banks an estimate of how much cash is available and in what timeframe.

Establishing clear accountability across the bank

A cash flow forecast is only as good as the sum of its parts. Building the right team of people can enable treasury to effectively manage working capital, and attain visibility into all processes that involves cash. Assigning ownership to each area of the forecast, such as accounts payable, accounts receivable, purchasing and sales, is important as well as linking the accuracy of forecasting figures to those individuals’ overall performance review and/or bonus.

Establishing regular routines and communications

The importance of cash flow forecasting as a strategic exercise needs to be communicated to stakeholders and reinforced on a continual basis. The regularity of forecasting must be the same throughout the bank. Although challenging, banks must ensure all subsidiaries to take a buy-in to a ‘bottom-up approach’ to internal reporting throughout the bank. This type of standardised approach is crucial to providing the necessary snapshot.

Regular forecast meetings, comprising all areas of accountability, can be used to conduct internal benchmarking and variance analyses, and highlight any areas in which the forecast has gone wrong. Constant routines and coordination with the operating teams will also enable banks to identify any changes that need to be reflected in a revised forecast.

Measuring success

Forecasting is a process which means there is always scope for improvement. By establishing and measuring metrics against the forecast, banks can track the extent that actual cash generation or outflows deviate from the forecast. Variance from actual must be measured and segmented in order to identify and address areas for improvement or, more importantly, acknowledge the success of those who are forecasting accurately.

Keeping both long-term and short-term forecasts aligned

Both the short-term cash flow forecast and the longer-term financial plan are usually created by different groups within the bank and may vary over time if they are not frequently monitored and adjusted. If the bank is substantially ahead of the cash flow forecast midway through the year, the long- term plan will need to be updated accordingly.

Expecting the unexpected

Unforeseen mishaps can occur any moment and not all can be predicted. So it is crucial for banks to have contingency plans in place that will provide access to immediate cash, whenever required. This effort must be led by a strategic player within the bank who can lead a team in developing, reviewing, testing and prioritising the actions that should be taken in case of unforeseen adverse events that upset the bank’s cash flow.

These contingencies can include the establishment of sufficient credit lines and identifying where cash is available within the bank in case of the requirement of quick cash movement.