Managing Corporate Liquidity: The Layered Approach

Most U.S. business leaders tend to think of cash as falling into only two categories of working capital and liquidity while ignoring an important third category of strategic cash. Businesses often will have a bank account for day-to-day operations and a money market or savings account for everything else. While this approach certainly has its merits, at some point this process becomes inefficient for the business that maintains significant amounts of cash and does not have a plan for leveraging its liquidity strategically for growth. 

Capital City Bankers encourage business leaders to think about cash in multiple short-, mid- and long-term layers that can be modified easily to respond to changes in market dynamics:

• Short-Term (Working Capital): Sufficient to meet the basic operating needs; 30-90 days of operating cash or cash equivalent of one to three turns of cash-flow cycle
• Mid-Term (Liquidity): Easily accessible in an emergency, but should only be accessed a handful of times a year; 90-180 days of operating cash or equivalent of three to six turns of cash-flow cycle
• Long-Term (Strategic Cash): Buffer against unanticipated needs, such as catastrophic disruption to business, cash earmarked for special projects or liquidity used to strengthen the balance sheet; 180+ days of cash-flow cycle

As business leaders consider layering their cash, they must evaluate factors like acceptable risk versus return parameters. Short-term and mid-term cash should always remain liquid with a very low-risk profile for the principal investment. These types of vehicles include checking accounts, hybrid accounts, savings/money markets or laddered CDs, which represent less principal risk but a lower rate of return.

Once a business has accumulated sufficient levels of excess short- and mid-term cash, its leadership should contemplate establishing a third layer of long-term, strategic cash for investment options with a higher risk profile. Long-term investments in vehicles like bonds tend to have longer maturity periods and produce higher yields than short- and mid-term investments. Any organization ready for investment-grade options should first institute an organizational investment policy, which governs the risk appetite of your organization and provides your investment advisors a framework of acceptable investment types. Some larger businesses will have in-house investment teams, while others will seek the expertise of a third-party advisor to manage their organizational investments.

For the business that maintains a high level of cash on its balance sheet, taking a layered approach to corporate liquidity can produce incremental returns. Other businesses have an intense working-capital need that leaves little excess cash or even requires them to borrow short-term liquidity. Wherever your organization falls within this spectrum, there is incredible value in taking a deliberate and strategic approach to your working capital and cash-flow needs. Whether that gives your organization more cash on hand to feed into these corporate liquidity layers or reduces your borrowing need for short-term working capital, the benefits can be tremendous.

Speak to your Treasury Management banker about how your business can establish a plan for managing corporate liquidity.

Sources:

⁽¹⁾ “AFP Corporate Cash Indicators^®” July 2021 Survey Results, Association for Financial Professionals

⁽²⁾ “2021 AFP Liquidity Survey”, Association for Financial Professionals