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Meeting Summary

Key Takeaways from the Assistant Treasurers’ Leadership Group Summit 2019 H1

September 10, 2019
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Assistant treasurers discuss cash-flow models, ESG's treasury impact, building a capital structure framework and more at first-half meeting. 

ATLG 2019The Challenge of a Constructing One Cash-Flow Model From Many

Accurately forecasting cash flow is a major challenge for companies, exacerbated by the fact that companies often have multiple cash-flow models employed by different divisions. Can treasury reconcile them to create accurate short- and long-term cash-flow forecasts?

Members of the Assistant Treasurers’ Leadership Group (ATLG) at a recent meeting explored their satisfaction (and dissatisfaction) with cash-flow models’ forecasting ability to make critical capital planning and allocation decisions. The session leader said that last year her employer, a major technology company, hired her as the assistant treasurer of capital markets. She was given the traditional capital markets mandate, including managing the company’s credit rating and establishing access to the capital markets. In light of her strong modeling skills, she was also tapped to secure the company’s long-term cash-flow model, establish its capital structure, and support the capital allocation and deployment process.

Building the model from scratch. Key to those initiatives was developing a long-term cash-flow model, a well-defined process at her previous company that also forecasted onshore and offshore cash, and one she was mandated to build from scratch at the new company.

Initially she queried different departments about whether they already used cash-flow models, and indeed many did. With no preconceptions, she analyzed the models to determine what each did, how they sourced data, and when their output was sent to the executive suite and board. FP&A’s model, for example, was used to report the company’s P&L and cash position to the CFO; corporate strategy employed a long-range forecast to understand the impact of M&A and other strategic moves; and tax had its own model.

Critical to her initiative was senior management’s mandate to proceed with the initiative and communicating this to different stakeholders.

Coming together. “So the company had many forecast models, but they often disagreed with each other, frustrating management,” the AT said. “Now corporate treasury has ownership and can reconcile a lot of these models.”

To reach that point, the AT asked users of cash-flow models about the level of granularity they expect from a central treasury model, including the forecast’s range, whether they just need it at the parent-company level or stepping down to the regional or legal-entity level, and how often the cash-flow model should be updated. The result was not a treasury model but a corporate model that could serve multiple constituencies and materially increase senior management’s confidence in using it to make important decisions.

Where the challenges lie. “Pain points” to establish a treasury cash-flow model that made sense for different parts of the company included determining model ownership at specific levels. For example, treasury’s model forecasts corporate cash at year-end and the end of each quarter, but on the operations side, working-capital assumptions are co-owned by treasury and FP&A.

ESG Now Part of a Treasurer’s World

ESG’s growing popularity increasingly impacts corporate treasury.

Environmental, social and governmental (ESG) factors are playing an ever more important role within companies and among their investors, a trend that is seemingly destined to grow and become increasingly relevant to treasury teams at US companies.

One indication of that trend is the strong support for ESG among millennials, tomorrow’s investors. Citing the Morgan Stanley Institute for Sustainable Investing, Elizabeth Kwong, assistant treasurer at Autodesk and a member of ATLG, noted that 71% of millennials believe sustainable companies are better long-term investments. Leading a session on ESG at a recent meeting, she added that millennials are twice as likely as the overall investor population to purchase a sustainable brand, three times more likely to work for a company focused on ESG, and 90% are interested in pursuing sustainable investments in their 401(k)s.

ESG investing today. Another ATLG member noted, however, that his company has offered such a fund for many years, and it has yet to garner much interest. “If it provides a reasonable return and in theory should do better over time, it would seem people with a long-term view would put money into it,” he said, adding, “the difficult part is defining social responsibility in companies.”

Ms. Kwong agreed, adding that investment managers appear to struggle with that question and that firms providing ESG ratings, including MSCI and Sustainalytics, incorporate a wide range of factors into their analysis. Nevertheless, she said, in 2018 the US saw $12 trillion of sustainably invested assets, up 38% from two years earlier.

A treasury approach. Ms. Kwong described three ways in which companies can develop “ESG frameworks” within the treasury department: investments, capital markets and credit management.

At the low end of the ESG investment spectrum is restriction screening, in which investors eliminate undesirable industries. In the ESG integration space, they actively consider ESG criteria in the investment process. Then they may focus on themes and sectors dedicated to solving sustainability challenges, and at the high end is impact investing, when an investment is chosen because the company’s core business makes a positive ESG impact.

For example, Ms. Kwong said, treasury can apply negative screens to the company’s in-house portfolio and tell separately managed accounts (SMAs) to do so as well. In the integration phase, it can invest in ESG-linked money market funds, and perhaps carve out a portion of cash managed in-house to invest in ESG securities, such as green and social bonds or other investments that meet a minimum ESG score.

Small AUM dilemma. Finding those investments can be tricky. ESG funds tend to be small, even those from major money managers such as BlackRock, and that can rub against companies’ investment requirements. Ms. Kwong said one approach may be to screen for criteria such as the percentage of AUM an investment will take up. Two other members said their firms limit investments to no more than 5% of a fund; one noted an AUM minimum of $5 billion and the other $1 billion.

Yield dilemma. Ms. Kwong said corporate treasuries can also add ESG ratings to the analysis, benchmarking a bifurcated portion of their in-house ESG portfolios against other portfolios with similar credits and ratings. The yield may fall short by a few basis points, she noted, but there are intangible ESG benefits.

ESG rating discrepancies. Several firms provide ESG ratings or scores using very different methodologies. As a result, Ms. Kwong said, their views on the same company can vary widely, and governance can be a significant factor in that discrepancy. Other ATLG members noted that ESG rating firms don’t like to see class A and class B shares, or the CEO also acting as chairman of the board.

Also emerging is a “controversy” score—measuring a company’s negative media exposure related to ESG. For example, Sustainalytics puts the ESG scores of a highly rated US pharmaceutical company in the 97th percentile, but its controversy score is “severe.”

Moody’s Investors Service and Standard & Poor’s have started incorporating ESG into their ratings, and the latter will provide an ESG score that can be published or not.

ESG immigrates to US. ATLG members acknowledged that ESG is a much bigger concern among European investors, but the concept is moving to the US with the help of subsidiaries of European companies, such as French insurer AXA’s Alliance Bernstein fund manager. NeuGroup founder Joseph Neu noted that China has instituted a social credit that is similar to ESG, and the concept will likely move overseas.

Traction in the debt markets. Ms. Kwong said that ESG is becoming a factor in the debt markets, noting that banks are now offering revolvers in which initial pricing is tied to the company’s corporate rating and a base ESG score. An improving ESG score can knock off 2.5 to 5 basis points from borrower costs, and the opposite can occur if the ESG score drops. “This product is relatively new in North America, and it has gotten more traction in Europe,” she said, “because regulators give capital credit to banks that underwrite these types of structures.”

Another member noted how controversy can unexpectedly punish ESG scores and thus increase borrower costs, calling it “an element of unhedgeable risk.” Ms. Kwong pointed out, however, that adding that cost to controversy should serve to strengthen a company’s controls.

Credit-rating management. Ms. Kwong said treasury departments should consider incorporating ESG into discussions with the rating agencies, and even partnering with investor relations and a company’s sustainability team—if it has one—to better understand how ESG ratings are generated. The adoption rate for MSCI ratings is 47%, tied with companies doing ESG ratings internally, followed by Sustainalytics at 34%.

Ms. Kwong noted the discrepancy of one member com- pany’s 66 ESG score putting it in the 54th percentile, and another’s 52 score putting it in the 63rd percentile. “So there’s still a lot of demystifying [to do] around these scores,” she said, noting the importance of actively managing ESG ratings by teaching ratings analysts about the company’s ESG efforts. “If you’re not spending time with the agencies, then they won’t know what you’re doing.”

The views expressed herein are solely those of the author/presenter and are not those of Autodesk Inc., its officers, directors, subsidiaries, affiliates, business partners, or customers

Standard Chartered on Building a Capital Structure Framework

Insights and perspective to help treasury construct an optimal, flexible structure.

Ten years of economic growth, an escalating trade war and stock market volatility should have many corporates reassessing their optimal capital structure and whether it is sufficiently flexible and dynamic.

That was the message delivered by Shoaib Yaqub, head of financing solutions and advisory at Standard Chartered Bank, in a presentation to ATLG that examined key factors in building a capital structure framework.

Recession and debt. Among the reasons that now is a good time to reevaluate capital structures are rising corporate debt levels and mounting fears of an economic slowdown. Citing a spring survey by Duke University, Mr. Yaqub noted that 67% of American CFOs believe the US will be in recession by the third quarter of 2020. “Such a big number worried about a downturn is quite telling,” he said. Meanwhile, corporate debt is now 214% above the level in 2000, raising some red flags about companies’ ability to manage it.

Debt in perspective. Despite the absolute increase in corporate indebtedness, debt as a percentage of tangible and intangible assets has, on average, declined slightly since 2000, Mr. Yaqub noted. And indebtedness as a percentage of assets varies substantially by sector; for example, it rose in health care but fell in materials. An ATLG member noted that inflated acquisition prices in recent years likely expanded the asset side of that equation.

More comfortable with debt. The number of BBB-rated companies has more than tripled since 2000, indicating the market has become increasingly comfortable with more debt on the corporate balance sheet. NeuGroup Director Scott Flieger, a former banker, said much BBB-rated debt issuance is M&A-related. Mr. Yaqub added that many of those corporate issuers decided it added little value to reduce debt and return to their formerly higher credit rating. “The difference between these thresholds is not as high as it used to be,” he said.

No link between lower taxes and corporate debt. Contrary to what one might expect, the lower corporate tax rate in the US has not resulted in companies paying down debt. Instead, much of the extra liquidity has been given back to shareholders in the form of buybacks and dividends, Mr. Yaqub said. He added, “This has happened in the past and in other geographies. You would think that in sectors where you find less taxation you would find less debt, but there’s no link there.”

One size does not fit all. Companies must be aware that sector and economic cyclicality can vary significantly and of how that impacts their perceived debt capacity and financial flexibility, Mr. Yaqub said.

Categories of risk. In the Duke survey, CFOs identified three categories of risk prompting firms to experience a “downside”—economic, market and sector. The first two comprise more general risks that impact companies to different degrees. Sector risks can be sudden and profound and include changing customer preferences, unanticipated disruptions, perhaps prompted by new technology, or one-off events such as data breaches.

A capital structure framework. Mr. Yaqub created a dynamic and conclusive framework to help companies develop capital structure policies. It has three pillars:

1. Maintaining financial flexibility. That flexibility should include identifying a business’s main risks, quantifying a minimum buffer to mitigate a black swan event, and ensuring sufficient headroom to accommodate ongoing bolt-on acquisitions as well as periodic transformational acquisitions. Mr. Yaqub said discussions with CFOs demonstrate that they are choosing to model “more realistic downside cases, not the extremes.” Annual assessments are typical, but corporates increasingly prefer in-depth reviews twice a year, he said. A point of interest is that more than 80% of CFOs “think they have moderate or a lot of financial flexibility,” Mr. Yaqub said, adding that increasing flexibility is less important than optimizing it.

2. Rating-agency considerations. Mr. Yaqub noted that increasing indebtedness may breach credit rating thresholds, which in turn affects companies’ relative creditworthiness and how investors assess their credit quality. Corporates must determine their short- and long-term credit rating targets, define any possible credit events and familiarize themselves with each agency’s sensitivities relevant to their business. Regular dialogue with the prominent rating agencies is key. In terms of corporates appealing ratings, Mr. Yaqub said, it is best to avoid a confrontational approach and instead provide agencies with information to gradually build a strong argument for change. Mr. Flieger emphasized the importance of approaching the rating agencies well ahead of an acquisition and making sure discussions involve the analysts who ultimately will hear the company’s presentation.

3. Peer-group review. While corporates whose intrinsic value depends on future, robust growth have typically maintained more capital structure flexibility, in recent years there has been a reduction in this flexibility, Mr. Yaqub said. He added that reviewing how peers have adjusted their capital structures can provide “food for thought.” Companies must define “direct” peer comparisons, and peers in other sectors or special situations may be worth reviewing. Fundamental analysis may not change materially, he said, but conducting peer analyses on a regular basis is a good practice to maintain.

TMS Implementation Tips and Tricks

Assistant treasurer insights into dealing with TMS-vendor trials (and tribulations).

Since treasury management system (TMS) vendors began consolidating several years ago, their customers have routinely complained about problematic implementations and deteriorating service. Members of NeuGroup’s ATLG recently shared their frustrations and insights:

Third-party help. One ATLG member said the big consultancies hire the TMS vendors’ implementation experts, and thus a treasury that uses these consultants to implement a new TMS system can enjoy a major benefit: “If it breaks, we know how to fix it and we don’t need to bring in [corporate] IT.”

However, another member pointed out, TMS vendors’ business models very much depend on the implementation hours they charge for, and so treasury must ensure that hiring a third-party consultant doesn’t result in paying double. A fixed-price agreement may resolve the dilemma of vendors dragging out the implementation process to increase billable hours. But be very specific in the state-of-work (SOW) agreement, “because [the vendor] will say you’re asking for something that’s not in the SOW” and charge you for it, he said.

Find and hold onto the best. The level of talent varies widely within the same TMS vendor company, “so depending on who you get to do the implementation, you’ll have a very different experience,” said another member, who recommended obtaining customer references for the vendor employee assigned to do the job.

NeuGroup founder Joseph NeuGroup told the group about another member who specified in the license agreement with the TMS vendor which employee the company wanted on the job.

Project management is key. The group agreed that TMS vendors’ project management skills tend to be lacking, so it is critical for a company to assign a project manager to hold vendors’ “feet to the fire.” Mr. Neu noted a study his firm completed a few years ago that revealed a key success driver was tapping a treasury team member to be that project manager, “almost as a second full-time job.”

Every problem is new. Whether onsite or in the cloud, implementing and upgrading TMSs still requires a lot of work by treasury staff, and many TMS vendors now seek to do upgrades every two years. Several members noted that when a question arises, even a seemingly obvious one, TMS vendors often suggest it is the first time they’ve encountered it. “[The vendors] are dealing with your peers, and you know your peers are asking essentially the same questions,” Mr. Neu said, adding that to avoid such situations treasury may be better off changing its processes to match what the TMS is designed to do, rather than customizing the TMS.

Nevertheless, Mr. Neu added, by this point in time, TMS vendors should have a report library that has most if not every report imaginable to answer questions and deal with problems.

It could be worse. An ATLG participant noted often being negative about TMS systems and their vendors. “But I can’t imagine having to do this stuff in Excel,” she said. Added Mr. Neu, “Corporates have to consider how much they’re paying for the TMS relative to the value it delivers. From a vendor perspective, it’s a very tough market to be profitable in, otherwise there wouldn’t be so much consolidation.”

In Search of an Activist-Warning Threshold

At what cash level does an activist take an interest in your company?

When corporate cash reaches 10% of a company’s market capitalization, has it crossed a threshold that attracts activist investors?

In a recent NeuGroup Assistant Treasurers’ Leadership Group meeting, one member noted analysts’ and investors’ tendency to look at cash as a percentage of market capitalization because it is easy to benchmark across different companies and industries. The member added that a banker had recently called 10% the line above which a company may attract the attention of activists. Acknowledging the potential randomness of that number and the need to also consider other financial multiples, she asked for the group’s perspective.

“There’s so much that would be company-specific, but it would be nice to have some kind of red flag, saying that at this time we’re not moving cash fast enough,” she said. “There’s no big M&A in the pipeline, so we need to start thinking about and maybe messaging a bigger share buyback program or dividend.”

A banker in the session called the notion “very interesting,” noting that cash as a percentage of earnings would be more informative. The member agreed, but added that market capitalization simply made for an easier comparison.

No one else at the ATLG meeting acknowledged encountering the 10% threshold, although several said their companies’ cash far exceeded it. One member placed his technology company’s cash-to-market cap percentage at 35%, well above peers. In an industry with little capacity for organic investment, he noted the company must resort to M&A and returning capital to shareholders. It retired about 15% of its debt last year.

Another member noted his large social media company’s cash stood at about 20% of market cap, likely covering a few years of operational expenses, but said it must be ready to compete on the M&A front against peers with much deeper pockets.