2.1 - Treasury Management & Working Capital Management

Corporate Treasury Functions

Treasury Management involves managing a firm’s financial resources to ensure liquidity, risk management, and effective funding. key areas include:

  • capital markets funding

    • raising finance through equity, debt, bank lending, and trade finance

  • corporate financial management

    • managing capital structure, corporate strategy, dividend policy, valuation, investment appraisal, regulation, reporting, and tax.

  • operations and controls:

    • organising the treasury function, ensuring compliance, managing reporting, and implementing technology and systems

  • cash and liquidity management

    • managing cash flows, liquidity, forecasting, and payment systems

  • working capital management

    • overseeing cash, trade credit, short term finance, and inventory [stock]

  • risk management

    • managing financial risks including business risks, operational risks, foreign exchange risks [FX], interest rate risks and credit risks

role of treasury management

  • the treasury function is considered the financial engine rooms of companies

  • it involves:

    • longterm financing decisions

    • managing relationships with financial institutions

    • risk management

    • collaborating with senior management to achieve corporate financial objectives

  • focuses on short term finance and capital management

working capital management

definition of working capital

  • working capital = short term finance and capital management

  • net working capital [NWC] = current assets - current liabilities

components of working capital

  • current assets:

    • cash and cash equivalents - readily available funds

    • liquid investments - short term, highly liquid securities

    • trade debtors [accounts receivable] - money owed by customers

    • inventories - raw materials, work in progress, and finished goods

  • current liabilities:

    • short term loans and overdrafts - immediate financial obligations

    • trade creditors [accounts payable] - money owed to suppliers

the operating cycle

the operating cycle represents the process of converting raw material into cash:

  • cash

  • raw materials [inventory]

  • manufacturing

  • finished goods [inventory]

  • sales

  • trade debtors [accounts receivable]

  • cash collections

key questions in operating cycle

  • how much of each asset should be held at stage?

  • how should each asset be managed?

  • how long does each stage take?

  • how should the operating cycle be financed?

cash cycle vs. operating cycle

  • the operating cycle - time taken from stock purchase to cash receipt from customers

  • the cash cycle - time from cash outflow for material to cash inflow from customers

working capital strategies

determining amount of current assets

  • optimal level of current assets minimises costs

  • trade off between liquidity and profitability

    • too much liquidity - low returns

    • too little liquidity - high risk of financial distress

how to finance the operating cycle?

  • is cash flow sufficient?

  • different approaches:

    • strategy F [conservative approach] - finance long term assets and some short term needs using long term finance [debt/equity]

    • strategy R [aggressive approach] - rely on short term finance for regular working capital needs

advantages and disadvantages of short term borrowing

  • advantages:

    • lower financing costs [compared to long term loans]

    • flexibility to adjust borrowing based on needs

    • quick access to funds

  • disadvantages:

    • higher risk due to dependency on short term debt

    • interest rate fluctuations increase cost unpredictability

    • liquidity risks if refinancing is needed

real world practices

  • data from Dr. Bilal Hafeez provides insights into corporate working capital strategies

  • companies use a mic of cash, receivables, and inventory to manage working capital

key takeaways

  • treasury management is crucial for financial stability, covering cash management, risk mitigation, and funding strategies

  • working capital management ensures smooth operations by balancing liquidity and profitability

  • the operating cycle highlights the movement of cash through inventories and receivables

  • financing strategies vary from conservative to aggressive, with each having its risks and benefits

  • short term borrowing can be beneficial but comes with financial risks

reference - Hillier et al. (2024) Corporate Finance, Fifth European Edition, McGraw Hill – Chapter 26: Short-term Finance and Planning.