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Insight to All Things Currency and Treasury Management

Video Transcript

Today we are going to talk about the application of lean principles to cash flow exposure management processes. Lean is the identification and elimination of waste in a process and, therefore, we could apply those techniques for cash flow exposure management.

Achieving EBITDA Predictability

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The goal of cash flow exposure management is creating predictability of the EBITDA; making sure the revenues and expenses are properly defined, identified, and the risk associated with it is properly managed. To define the metrics for a lean process we need to make sure we create the definition, measurement, analysis, improvement, and controls around it.

Cash flow exposure management is a process that has six sections. Each of the sections can be defined to produce a metric. Those metrics are going to be used to evaluate whether those processes need to be updated or whether those processes should be enhanced.

For example, on the data collection side, there is a process of timing. In that process, we could define metrics to identify the latency of the forecast submission. Individuals are going to be asked to provide their forecast and there is going to be a time delay between the receipt of information and the exposure management process. As time goes by, FX rates will be moving, and the decision on the action the treasury will be taking is going to be impacted and the results will be impacted by that process. Having metrics around those aspects of the process is going to help capture the exposure management process better.

There’s also a way to create metrics around the decision-making process. In many cases, treasury teams who go through a lot of consolidation to get to the exposure and to get to the decisions. Having a process where the defined, measured and predicted delivery of that information is going to help companies get better at it. Making a decision quickly is going to save you money and help you reduce your risk as well.

In this session we are going to focus more on results. Getting a predictable EDBITDA is going to require a lot of analysis, and we want to make sure you have the metrics around two of the main measurement processes.

Forecast Over Forecast

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The first one is to measure your forecast-to-forecast comparison. The forecast-over-forecast comparison is going to help you eliminate waste and in lean principles that waste is directly applicable as errors. In many cases having the elimination of errors is going to give you a better visibility to your cash flow exposures.

Increase Forecast Accuracy

It is going to give you increased accuracy of your forecast. A lot of times when companies are looking at their forecasted process, their immediate history is the previous period. As you are pulling in your new forecast you want to make sure you compare it against what the forecast was in the prior period.

Diminish Forecast Error

In many cases when the forecast changes significantly there are two reasons for it.

One is very plain and simple: errors during the data input process. People are unintentionally adding or introducing errors to the process. The second piece is something that can be explained, where, the business might have changed and if you have a legitimate reason for that change then are you going to notice it, mark it and then move on. But having a look at the forecast-over-forecast comparison and creating metrics around it is going to be very valuable.

Reduce Forecast Volatility

In the FiREapps for Cash Flow application, we look to identify those items, we will capture the forecast in the current period and then we identify what the change was from the prior submission and highlight any variances that might exist to a certain percentage. Having that form of a metric approach is going to highlight the changes from the prior section, from the prior period, from the prior submission and will allow you to see which exposures jumped significantly, and before you make any decisions you will be able to follow through with them, identify them and get a reasonable explanation for the difference.

Forecast Over Time & Forecast to Actuals

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The second approach is that every time you forecast there is something that is going to be the anchoring point and that is the actuals. Once the forecasts are done, you need to calculate the variance between the different forecasts and the actual of that revenue and expense stream. When you do forecast-over-time or forecast-to-actual analysis, that is to improve your forecasting process.

Create a Feedback Loop to Forecast Process

Most of the time if you are deviating significantly from the actuals, that means there is an inherent problem with the process — meaning you will be able to take that information and supply it as a feedback loop to your forecasting process and make improvements on it.

The forecast-to-actual error can be tracked using upper and lower control levels and making sure as you go through from period to period and you get into the actuals, the variance between the actuals and the forecast can be within some tolerable ranges.

If an entity is providing a forecast and their forecast is always consistent to their actuals, there is no need to update their process and you can monitor it and continue to use that data to manage exposures. However, if you have an entity and a currency that is consistently missing its mark, you can use that information to enhance that process or make a decision whether or not managing that currency or that particular entity is relevant.

Leveraging Technology to Identify Anomalies

Most of the time companies that don’t have a process like this or metrics around it decide to terminate the entire cash flow exposure management program — and that’s a big mistake. By having a metric that can pinpoint which sections are underperforming or which sections are inefficient is going to help you weed out which ones are inefficient while continuing to use the programs that are successful.

At the end of the day, with a better forecasting process, you will have a better visibility and you will achieve EBITDA predictability. With FiREapps for cash flow, you will be able to reduce risk and reduce cost with a better aligned cash flow exposure management process.