Managing Balance sheet Liquidity

& Long Term Funding

Presented byDr. Rajeev Jain

Summary Form of Balance Sheet

Slide 1

Slide 2

Recession or Crisis ?

• One Year of recession is Completed.

• Crisis is like a Forest Fire

• Economist always say what one should do during Recessionary Conditions Government should do infrastructure projects, War, etc ??.

• Our view - concentrate on Long term goals consequently Long term Funding.3

Slide 3

Do the company have the right cash management process?

• Never run out of cash – Built margins• Cash is King• Know the cash balance right now• Do Today’s work today• Either you do the work or have someone else do it• Don’t manage only from the Bank balance look at forecast

also• Know what you expect the cash balance to be six months

from now• Cash Flow problems don’t ‘Just Happen’• You Absolutely, Positively, must have cash flow projections• Eliminate your cash flow worries

Slide 3.a

Why cash management process?• To invest excess cash for a return• To have sufficient liquidity for future needs• This is very crucial during recessionary conditions

Cash Management Process• Centralize cash management versus decentralized cash management• “Well co-ordinated cash process” should exist such as investment,

disbursement and collections• MNC’s, must use a bank known for quality international services, network,

cash concentration and clearing• Use technological tools and services for example; Credit card collections

through systems, proper ERP system• Be careful of foreign exchange transaction and exposure• Processing cost in bank must be kept in check• ‘Cash needs’ (greater of deposit held by a bank to compensate its services

or precautionary balances) must be defined so all additional cash handling• Major capital expenditure should be timed.• Establish zero balance account for disbursement units• Acceleration of cash receipts versus delay of cash payments

Slide 4

The importance of accurately forecast company cash flow with liquidity

management• Effective business cash planning will inform CFO where

expenses need to be cut, and whether new ways to make revenue are needed. 

• Business cash planning also will reveal whether outside financing will be required to maintain a positive cash flow.  Ultimately, it will guide CFO and managers on how much money should be spent on particular expense categories, and provide revenue goals.

• Business Cash planning is important particularly in these three areas Sales, Expenses and Capital Expansion

• Primary goals for the organization and their implementation can be obtained

• Surplus funds can be invested with time horizon and with maximization of return.

Slide 4.a

Primary goals for the organization and their implementation

The primary goals of a good cash management system are:• To maintain adequate monies at hand to meet the daily cash

requirements of the organization while maximizing the amount available for investment. 

• To obtain the maximum earnings on invested funds while ensuring their safety.

In order to reach these primary goals, a CFO should strive to:• Develop strong, internal control of cash receipts and

disbursements. • Establish improved procedures for collecting outstanding. • Establish clear lines of communication between CFO and

department heads. • Develop solid professional relationships with local bankers and

other members of the investment community.

Slide 5

Looking at your balance sheet frequently – do the company has sufficient funding sources?

Type of Long Term Funding Sources

Issue of Equity Shares, Issue of Preference Shares, Issue of convertible and non-convertible Bonds, issue of optionally convertible and non-convertible Debentures, Islamic Finance through long term financial products such as Ijara (Leasing) , Murabaha (Cost-plus financing), Musharaka (Venture Capital), Sukuk (Fixed income securities) etc, Long Term Loan from Banks & Institutions

Type of Short Term Funding Sources

Overdraft, Cash Credit Limits ,Trust Receipts ,Short Term Loans Bridge Finance, Islamic Finance through short term financial products such as Istisna (Progressive Financing), Mudaraba (Trust Financing), Takaful (Islamic Insurance), Wakala (Agency Contract)

Slide 5.a

• The term liquidity risk is meant to capture the risks to a corporation of having its short-term liability funding requirements unmet by its short-term assets. In essence this is the risk that the company will not have sufficient cash to meet its liabilities as they fall due.

• Liquidity risk is also used to describe the risk of an increase in a security’s bid-offer spread or a reduction in market depth for a traded security.

• Liquidity risk arises from the variable components of short-term assets and liabilities. On the asset side, security values may fall. On the liability side, lenders may make margin calls on security loans, trading counterparties may make collateral calls on repurchase agreements and over-the-counter (OTC) derivative trades, and futures exchanges may make mark-to-market cash demands.

• Political Risks : An investment's returns could suffer as a result of political changes or instability in a country. Instability affecting investment returns could stem from a change in government, legislative bodies, other foreign policy makers, or military control.

• Foreign exchange risk : The risk that an investor will have to close out a long or short position in a foreign currency at a loss due to an adverse movement in exchange rates

• Economic Risk : The danger that the economy could turn against your investment. An example would be a real estate company in a period of high interest rates

Slide 6

Ensuring the right balance of credit and non-credit service utilization for funding process

Maintain a right balance between credit and non-credit services with a minimum cost and a target of maximum return on investment

Slide 6.a

Steps to make right balance of credit and non credit services

• Problem identification & analysis• Establishing alternative solutions• Choosing the best solution for the problem• Identify the required resources• Set the required resource mobilization activities in a

logical sequence and identify the implementers• Draw a time table for the resource mobilization events

activities• Implement the resources mobilization

Slide 7

Learning about rebuilding the balance sheet and turning their problem into growth

A) Learning of the Balance Sheet on the following steps:

• Identify the Net worth position

• Availability of Cash surplus and Reserves

• Maintain ideal position of Debt Equity Ratio (2:1)

• Acid Test Ratio for the Liquidity of funds

B) Turning the problems into Future Growth

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Slide 8

Establishing long term stability and security of our funding in turn helps

protect our liquidity position in the crisis• Short-term assets include cash, cash equivalents,

marketable securities and marketable inventories – ie, any asset that can be converted in a short period of time to cash

• Long-term assets include assets that cannot easily be converted to cash, such as plant and equipment, reputation, goodwill and the present value of future growth opportunities

• Short-term liabilities include short-term debt and liabilities which can be converted to debt, such as lender margin calls and trading counterparty collateral calls.

• Long-term liabilities include long-term debt and equity, or other long-term funding mechanisms

Slide 8.a

The basic schematic is shown in the diagram:

Slide 8.b

• When short-term liabilities exceed short-term assets, to prevent bankruptcy, long-term assets must be converted to short-term assets, or long-term liabilities must be increased, with funds being used to retire short-term liabilities.

• As long as short-term assets exceed short-term liabilities, companies will not have many liquidity problems, finding resources or engaging in short-term borrowing to offset liabilities as they become due.

• A serious problem arises, however, when short-term assets or short-term liabilities are stochastic, or unpredictably variable.

• In these situations, its short-term liabilities can suddenly exceed short-term assets, forcing the company to liquidate long-term assets, increase long-term liabilities, or face bankruptcy.

• When these events take place, the company enters “financial distress,” and can find that the market for both its assets and liabilities has diminished or disappeared

Slide 9

Building necessary tools and methods to achieve properly structured balance sheet

A ) Necessary and important tools :• Acid Test = Cash and Near Cash ÷ Current Liabilities • Current Ratio = Current Assets ÷ Current Liabilities • Receivables Turnover = Sales ÷ Receivables• Days Receivables = 30 ÷ Receivables Turnover• Inventory Turnover = Cost of Goods Sold ÷ Average Inventory • Days Inventory = 30 ÷ Inventory Turnover • Gross Margin Rate = Gross Margin ÷ Sales• Net Profit Rate = Net Profit ÷ Sales • Return on Investment (ROI) = Net Profit ÷ Net Worth• Return on Assets (ROA) = Net Profit ÷ Total Assets• Break Even Sales = Fixed Costs ÷ (Contribution/Sales Ratio)B ) Necessary and important Methods :• Cash Flow Statement in short term and long term purposes.• Contingency Plan

Slide 9.a

• Regular meeting and feedback

• Use appropriate ERP system

• Use appropriate Budgetary system.

• Revenue and Expenditure system.

• Inventory Valuation system

• Segment Reporting

• Keep non-funded sources in check

Slide 10

Managing complex situations precisely through flexible values (general direction), values with longer lifespan than goals or objectives and past and present corporate actions

Corporate Actions Required

•Corporations must manage these risks through better contracting and pre-committed contingency plans.

•Develop a strategy, policies and practices to manage liquidity risk in accordance with the risk tolerance and to ensure that the corporate maintains sufficient liquidity.

• Continuously review information on the liquidity developments and report to the board of directors on a regular basis.

• Board of directors should review and approve the strategy, policies and practices related to the management of liquidity at least annually and ensure that senior management manages liquidity risk effectively.

Slide 11

Closing Remarks– False assumption That There will always be sufficient liquidity

unless you face crisis.

– Did we analyse ,why have previous measures to quantify liquidity failed.

– Regulators focused on survival.

– Bais toward Short term which makes number of assumptions.

– All presumed unlikely became most likely.

– So Plan for long term liquidity, Collaborate ,Merger and acquisitions ,diversification…

– And Cycle Begins Again…….

Understanding Islamic Finance The Five Pillars Of Islamic Finance1. The ban on interest

– Interest must not be charged or paid on any financial transaction, as interest (or the intrinsic value of the money) is deemed unlawful by Sharia.

2. The ban on uncertainty or speculation– Uncertainty in contractual terms and conditions is forbidden. However, risk

taking is allowed when all the terms and conditions are clear and known to all parties.

3. The ban on financing certain economic sectors– Financing of industries deemed unlawful by Sharia--such as weapons, pork,

and gambling--is forbidden.4. The profit- and loss-sharing principle

– Parties to a financial transaction must share in the risks and rewards attached to it.

5. The asset-backing principle– Each financial transaction must refer to a tangible, identifiable underlying

asset.

Slide 12

Islamic Finance in Philippines

• Recent acquisition of 69% ownership of Al Amanah Islamic Investment Bank by Development Bank of the Philippines (DBP).

• The benefit of this acquisition is that the Bank’s will extend their financial assistance to small and medium businessmen.

• It has proved that the Philippines pioneered in Islamic Banking.

• There is a 20% estimated growth rate of Islamic Banking in Philippines.

Slide 12.a

Reported in Gulf News, UAE

Slide 12.b

Thank You All !!