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How CFOs can minimise the impact of Covid-19 and build business resilience in times of disruption

Organizations are struggling to implement an immediate crisis response mechanism while exploring long term sustainability solutions to build resilience against future black swan events.

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Last Updated: Apr 18, 2020, 12.11 PM IST
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The first most critical area of consideration is cash and liquidity management.
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By Hemal Shah

Global spread of coronavirus (COVID-19) has resulted in high volatility in financial markets, widening credit spread, dried up liquidity, and is indicating an economic slowdown across the world. To stabilise financial markets, Reserve Bank of India (‘RBI’) announced repo cuts and reverse repo rates, reduced Cash Reserve Requirements (‘CRR’) and planned Targeted Long-Term Repos Operations (‘TLTROs’). It has also instituted moratorium on term loans instalments and allowed deferment of interest on working capital loans. With these measures, RBI expects liquidity in the Indian system to increase by Rs 3.74 lakh crore.

Organizations are struggling to implement an immediate crisis response mechanism while exploring long term sustainability solutions to build resilience against future black swan events. However, there are three key areas that can play a critical role in helping Chief Financial Officers (CFOs) minimise the impact of the current situation.

The first most critical area of consideration is cash and liquidity management. Now, while most leading institutions are restructuring their business operations, operating cashflows, and customers’ payment abilities considering the on-going scenario, cash and liquidity management is an area are businesses are grappling with as the situation continues to evolve. Rising market uncertainty has caused companies to revise their monthly cash flow forecasting horizon to daily monitoring and to match their expenditure with collections. Revised estimation basis shock tests are being conducted where cuts of 50% to 75% on expected collections are being estimated.

CFOs are compelled to make critical decisions in order to ensure that the priority expenditures are low like capex spends and dividend pay-outs that are being pushed forward to secure liquidity for prolonged periods. To have a higher control on their position, companies have moved their investments from liquid funds to overnight funds. Due to the ongoing operational challenges with banks, some companies are no longer considering undisbursed bank lines as a key component of their liquidity buffer.

CFOs must look at expanding the horizon of their liquidity buffer to at least 9-12 months, regularly stress test revised liquidity buffers, review components of liquid assets, identify opportunities to leverage cash pools/trapped cash and evaluate government special assistance/ support programs.

The second area of consideration for CFOs is financial risk management. While financial markets experience record levels of market volatility due to sharp depreciation of INR against the dollar, and differential spreads in over the counter (‘OTC’), exchange and non-deliverable forward (‘NDF’) markets. To stabilise the situation, RBI is conducting multiple interventions like infusing dollar liquidity, providing operational flexibility to corporates, and encouraging participation in NDF markets.

For importers, protection levels for ‘cost reduction structures have breached, resulting in high unplanned cash outflows on FX exposures. Many companies are also struggling to account for interest rate hedges which are expected to result in high mark to market loss due to substantial fall in US treasury yields. Further, hedging is challenging as cost of hedging through forwards have increased (1-month premium increased from 3%- 9%) due to dollar shortage. Companies are observed to hedge their far end exposure through forwards since cost of hedging through forwards in far end tenors have remained around 4 to 4.5%.

Similarly, for exporters, unhedged exposures have allowed them to undertake incremental hedges at favourable rates. However, rolling over of hedges has resulted in huge immediate cash outflow on existing hedges.

In light of this scenario, businesses are advised to follow a ‘wait and watch policy’ by close and continuously monitor shifting market dynamics across geographies, challenge cashflow exposures, resort to low cost hedge instruments to hedge highly probably exposures and proactively engage with the business teams to ensure the accuracy of the forecasts and pricing terms renegotiation possibility.

The third area of consideration is assessing funding requirements. Treasury is reassessing the adequacy of current funding sources under various potential downside scenarios. They are also evaluating alternatives to unlock cash in financial supply chain by negotiating extension in credit periods.

Multiple leading treasury organizations have started engaging with banks to evaluate feasibility of adopting structured finance solutions like factoring to fund assets. Monetizing current assets is equally critical for CFOs to reduce both liquidity and credit risk on carrying debtors and inventory. Select cash rich companies are also adopting invoice discounting methods like dynamic discounting and reverse factoring to extend support during stressed times and strengthen vendor relationships.

Therefore, we encourage businesses covenant monitoring to mitigate non-compliance risk, re-evaluate financing temporary liquidity mismatch through short term loans or working capital demand loans, extend COVID-19 emergency line of credit and proactively socialise with credit rating agency and banks to avoid reputational risk, penal interest, and facility call-backs.

In medium term, companies will have review treasury policy, institute disaster recovery protocols in ‘impact geographies’ and develop near real time technology and analytical platforms to reduce people dependency. A robust management strategy in these three critical areas will help companies in planning their immediate response and building healthy governance framework that is resilient against such black swan events in the future.

Hemal Shah is Corporate Treasury Leader, EY India.
(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
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