What is Liquidity Management?

Today, financial agility means having the assets available to act quickly. For many businesses, a lack of visibility into financial assets puts them at a competitive disadvantage, results in lost opportunities, and introduces undue risk.

The loss of control and opportunity comes at a particularly inopportune time as many companies are moving on from crisis management and recovery mode. This is where sound liquidity management can make a difference. The right strategy will provide the right amount of capital at the right time. And when it’s underpinned by advanced technology, liquidity management draws on complete, real-time financial data from across the business to inform faster, better business decisions.

What is liquidity management and how does it improve the bottom line?

Simply put, liquidity management is the strategy any organization adopts to optimize, maximize, and safeguard its liquidity. Excellent liquidity management is characterized by full visibility into spend, cash, liabilities, and financial resources — not just the bigger financial picture. To make the right decisions at the right time, finance teams also need to see every transaction and cash flow, every regulation that impacts financial obligations, and every payment to every supplier. This is why the best liquidity management strategies are embedded in Business Spend Management (BSM), a practice that creates a seamless source-to-settle process across treasury, finance, AP, and procurement for a holistic, unified view of all spend and financial resources.

Companies at different stages of financial maturity exhibit different liquidity management strategies. In the earlier stages of maturity, liquidity management is often the means to access readily available cash. These liquid assets can then be used for various purposes, such as paying for goods or services, covering debt obligations, or for short-term investments. Finance executives also look at a balance sheet and convert funds tied up in one area to another more crucial, time-sensitive need, including day-to-day operations.

As a company’s financial maturity evolves, its liquidity management grows beyond cash management strategy. A broader strategy, for example, maximizes and optimizes liquidity by using full financial visibility to unlock hidden yield in supply chains. In today’s times, supply chain management requires a constantly vigilant approach to cash opportunities. Cash requirements need to be measured for events anticipated and unexpected, including one-time payments, slower inventory turnover, seasonal variations, or missed sales targets.

Liquidity management extracts greater value from supply chains when:

• Treasury collaborates with procurement to include discounted payment terms on all invoices, such as early pay discounts
• Treasury identifies payment terms across all suppliers and invoices and works with AP to ensure there is an approach to manage payment timing based on liquidity, such as paying as late as possible or maximizing Days Payable Outstanding to increase available cash
• A virtual card program is leveraged to maximize working capital
• Treasury, procurement, and AP work together to increase the number of suppliers who accept virtual cards as a method of payment to increase card transaction volume, which in turn increases spend under management while simultaneously increasing the bank rebate amount
• Finance departments free up additional cash through automatic reconciliation and multilateral netting

Complete visibility of financial data also plays a critical role in safeguarding liquidity. Liquidity management strategies can apply AI-powered insights during cash forecasting and scenario analyses. Treasurers will also find it easier to establish in-house banking at their organization, which reduces higher borrowing rates and reduces foreign exchange exposure.

Liquidity risk management also plays an oversized role in managing your supply chain. Considering the volatility in the supply chain due to issues related to the COVID-19 pandemic, liquidity management is more essential than ever. Having a handle on liquidity allows businesses to make decisions in the moment of need, especially when uncertainty may require fast action.

What are liquidity risks?

Liquidity risks are areas of financial vulnerability within a business. Without a sound approach to both cash flow management and liquidity risk management, companies may face a liquidity crisis that has business-ending consequences. Among the most common liquidity risks are:

• Inability to Secure Financing: Late debt repayments or failure to follow loan agreement covenants can make it hard for companies to secure additional financing. Businesses must maintain good relationships with lenders, match assets to debt maturity profiles, and have solid capital structure management. A failure to secure funding or at optimal rates can become a major liquidity risk.
• Unplanned Capital Expenditures: Capital-intensive businesses are often highly leveraged, with steep fixed-to-variable cost ratios. For such businesses, an unexpected capital expense, such as the need for new equipment, can worsen existing budget constraints. Those constraints can add to liquidity risk.
• Poor Cash Flow Management: Cash flow management helps a business understand possible liquidity opportunities and challenges. Cash is still king, meaning positive cash flow is a must. Without a healthy, robust and consistent approach to cash flow, your business will be under a constant liquidity risk, making it difficult to secure loans, attract investors, or remain viable long-term.
• Profit Crises: A business living through a profit crisis is going to see declining profit margins and a decrease in revenue. These crises often require a business to dip into cash reserves. While this is a sound short-term option, a business that burns through its cash reserves could quickly face a liquidity dilemma.
• Lack of Visibility: In 2020, the world’s economies and businesses were hit by a tidal wave of trouble. The health crisis and resultant business downturn had a calamitous effect on businesses of all sizes. Even in late 2021, supply chain issues and labor shortages continued to create an uncertain forecast for many industries. Companies that had an effective liquidity risk plan were far better able to manage those unexpected turns and weather the crises.

Effective liquidity risk management

Want to ensure that your company has a sound liquidity risk management plan? Be sure to factor in:

• Appropriate policies, procedures, strategies, and limits that set out clear guidelines for an approach
• Effective corporate governance that acts as the foundation for financial management
• A diversified mix of funding sources and revenue streams
• An investment strategy that includes the right levels of highly liquid market securities
• A comprehensive contingency funding plan
• Internal controls to monitor, measure, track, and report

A real-time solution for liquidity risk management

Coupa works with customers across industry verticals to provide cloud-based, data-driven solutions for liquidity risk management. With Coupa solutions and expertise, your company can unlock liquidity, streamline payments, and increase agility.

The Coupa solution breaks down internal silos, accessing the data that allows for better anticipation of liquidity events, improved banking relationships, organizational visibility, and improved financial performance. By eliminating tiresome and mistake-prone manual processes, your business will reduce risk and mitigate errors and fraud while remaining in compliance with various regulators.

“The BNP Paribas Virtual Card is a powerful payment solution enabling process improvement, working capital optimization for corporations and their suppliers, and accounting reconciliation and integration processes. The solution is agile and tailored to unique procurement rules policies as well as payment needs. [...] Together with Coupa, we are helping companies gain visibility and control of their financial processes." — BNP Paribas on its partnership with Coupa to roll out the BNP Paribas Virtual Card

Operate from a single source of truth for payments with seamless and transparent payment management. Unlock working capital in the moment of need and optimize opportunities and supply chain management all in an integrated solution. To learn more about Coupa’s liquidity risk management solution, download our eBook on rethinking working capital management and payments.