Forecasting cash flow and liquidity through times of financial uncertainty

February 28, 2017


With the vote on Brexit now behind us, businesses in the UK are now facing a likely period of long-term financial instability with currency challenges and inflation. Predictions from the Governor of the Bank of England with respect to the value of the British Pound (GBP) weakening have arrived leading to the cost of imported finished goods and raw materials, as well commodities such as oil and fuel going up.

Whatever your view on Brexit, we will be stepping into unchartered territory and therefore can be sure financial conditions are going to be uncertain. Just as in the last economic downturn and the one before that, the capital markets are likely to tighten up on their lending criteria. As a consequence, UK businesses will likely face the heightened challenges of:

  • Being able to provide an accurate forecast of their cash flow position
  • Being able to demonstrate they can readily evaluate liquidity and excess availability
  • Modeling alternative financing structures
  • Demonstrating covenant compliance to ensure that compliance remains intact on an ongoing basis

Innovative enterprise performance management solutions are designed to manage the complex reporting requirements of modern finance professionals, including cash flow and balance sheet reporting. These functions are especially difficult to manage in a spreadsheet environment, or even with many emerging EPM solutions, due to forecast complexity and high margin for manual error. Efficient cash and liquidity management is critical to the financial health of any company. In an unpredictable economic environment, there is often a disproportionate amount of focus on top-line growth and too little emphasis on the funding of the business. Cash flow analysis isolates operating, investing and financing cash flows and entails both short-term and long-term capital considerations.

Short-term capital analysis

While acknowledging working capital may not represent the largest asset category on the balance sheet, the efficiency of that working capital can have a significant result on free cash flow and will have a considerable impact on shareholder value. Return on Assets (ROA) and managing the procure to pay process will not only improve solvency, but will also help reduce leverage and subsequently lower interest expense. Each day of improvement in the procure to pay operating cycle translates into a quantifiable amount of incremental working capital on the balance sheet. In parallel, by accelerating the cash conversion cycle by a few days, there would be a coinciding cash flow improvement and increase in profitability. Based on an organization’s P/E ratio, this increase in profitability would translate into a significant shareholder value contribution.

Long-term capital analysis

Most spreadsheet-based financial models lack the ability to provide management with the critical information they require, particularly on cash reporting, liquidity and solvency. By implementing a tool that produces a rolling cash forecast, the organisation can have a more accurate understanding of which assets or business segments are either accretive or dilutive to any cash position, so management can take swift actions where required. For organisations faced with debt maturing, or coming up for renewal, spreadsheets struggle again in allowing users to model an unlimited number of scenarios in which they can view their business under a variety of different capital structure alternatives. Also, when combining these complexities with modeling interest rate swaps, hedging instruments, repatriation strategies and their associated tax impacts–all of which are overplayed with fluctuations in foreign exchange rates–you need an easy to use performance solution that allows you to quickly pivot.

Mitigating the risks and managing the process

Ultimately, the overarching complexity in performing cash flow analysis and modeling in spreadsheets, for something so fundamental to the survival of businesses, whether or not we are in uncharted territory is a risky strategy. Risk within the spreadsheet formula, cell linking and workbook linking. Risk with the fact the spreadsheet is highly likely to be undocumented and so you immediately have a key person dependency–if the author of the spreadsheet leaves (or worse case was a hired consultant), you are exposed to a red flag on your next audit.

Certainly, one way of mitigating the risks of the spreadsheet are to replace the models with a system such as the Infor Dynamic Enterprise Performance Management (Infor d/EPM) solution. Cloud based or on-premise, Infor d/EPM is a flexible and highly configurable modeling application that can connect all aspects of your financial performance–from earnings potential through working capital management to capital expenditures, tax and the appropriate capital structure to support your business activities. With Infor d/EPM, you can simulate the complex iterative nature of funding, the impact of growth strategies on your credit ratings and capital structure optimization. As a unified solution, Infor d/EPM offers tools and capabilities to support the strategic planning, cash flow forecasting, budgeting, planning and statutory consolidation and reporting allowing you to demonstrate a precise control over your business and model potential future scenarios–both significantly faster and with a greater degree of reliability than in spreadsheets.

A system like Infor d/EPM can:

Provide a common modeling platform to facilitate the quantitative analysis performed by the Finance, Business Development and Treasury groups in a corporation.

Be configured to deliver working capital templates that allow customers to monitor and sensitize DPO’s, DSO’s, inventory turnover, working capital peer performance comparison and quantify the coinciding impact from changes to the operating cycle.

Perform “what-if” simulations at the Group level, as well as at the business unit level. This functionality allows users to identify underperforming assets and run simulations of divesting these underperforming assets. Conversely, users can evaluate which strategic initiatives should be funded, and if there is sufficient cash flow from operations to finance these activities, or if the organisation will need to raise additional debt.

For more information on Infor d/EPM, click here.

Author: Mike Weeks, Senior Account Manager, Infor

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