In order for any corporate to successfully pursue its strategic objectives, it must be sufficiently funded—i.e. have the right amount of money, at the right time, and in the right currency. This requires putting a funding strategy in place that addresses the optimal funding mix and the best source of funds, given the corporate’s operational and strategic investment needs.

Although there is not a “one-size-fits-all” funding strategy, general principles can be applied. These are discussed in following four steps.

1. Understand the overall corporate strategy.

Treasury must understand the corporate strategy, as it forms the basis upon which investment needs are determined. It typically consists of two components.

The business strategy covers the company’s products, the markets it operates in, and the extent to which the focus will be on growing the operations. There are several aspects of the business that will be particularly relevant to the funding strategy.

For businesses that are capital intensive or that focus on product innovation, there is typically a delay between when cash is spent and generated by the project or product. This means committed and probably longer tenor, nonbank funding (diversification) are needed to ensure completion and delivery as promised.

If the focus is to grow the business via acquisitions, then the banking group must be sufficiently large and strong to raise an acquisition facility, and the ability to refinance the facility in the debt capital markets becomes important.

A company with geographically diversified operations may require funding in non-major currencies. Projects in higher-risk countries also may require project or asset-specific funding in order to mitigate the project and/or country risk.

The financial strategy aims to ensure that the strategic objectives of the company can be executed in a disciplined and effective manner that enhances overall shareholder value. The financial strategy parameters (e.g., target credit rating and financial ratios), take into account the company’s capital structure, financial strength and size, and are important to consider in formulating the funding strategy.   

2. Determine the funding requirement.

Taking into account the direction provided by the corporate strategy, the company can complete a cash flow forecast that should ideally cover a five-year time horizon, but with the first 12 to 24 months (ideally) being broken up in monthly brackets, so that the short to medium-term funding requirement can be determined more accurately.

Treasury needs a particularly good understanding of the forecast, for example:

• How predictable, cyclical or seasonal the cash flows are
• Cash visibility and availability (i.e., to what extent the forecasted cash flows are available in full to the center). This could be an issue if some operations are in countries where local central bank regulations prohibit the immediate remittance of cash to the center.  

Based on the above, appropriate adjustments must be made to the forecast to ensure it is as accurate as possible. The adjusted forecast will be used to determine the amount of funding required, when and where the funding is required and the reason(s) for the funding, which can include operational shortfalls, working capital and trade finance-related funding, funding an acquisition or project, and repayment of maturing debt.

3. Assess which funding sources to use.

The choice of funding source will be driven primarily by the amount to be funded and the reason for the funding. Ideally, the funding source selected must allow the corporate to:

• Minimize the cost of funds
• Raise funds quickly if required
• Facilitate the effective management of the debt maturity profile
• Access it, even if the corporate is under pressure
• Avoid onerous documentation and disclosure requirements
• Avoid overreliance on bank funding
• Rely on it given the potential competition for the same funding source.

The right mix of funding sources, can include any of the below or more likely a combination:

• Equity, including convertible bonds
• Bank funding—uncommitted, committed or specific
• Corporate bonds, including private placements
• Project finance, which may be required by partners in a project, or if country risk must be mitigated
• Receivables financing (securitization, factoring, etc.).

The funding sources selected may also be impacted by legislation, regulations and trends. For example, banks may become increasingly selective in lending funds for the building of new coal plants due to climate change. Consequently, for a coal producer to rely solely on bank funding would be inappropriate.

4. Apply basic funding principles, then set the objectives.

There are some basic principles to consider when developing the funding strategy. Treasury needs to ensure that funding documentation is always updated so that markets can be accessed quickly if required. Additionally, a core funding requirement should not be funded with short-term facilities (e.g., commercial paper) unless cash flows are stable and predictable. The more unpredictable the cash flows are, the greater the need to have a sufficient liquidity buffer and access to diversified funding sources. Do not extend the maturity profile too far if the cash generation is expected to be strong, as the early repayment of long-term debt may not be possible, or it may be costly.

A funding strategy will have to be managed in line with and measured against agreed objectives. Below are  typical funding strategy objectives:

• Ensuring access to capital and liquidity at all times: A strong credit rating provides access to capital and in particular diversified sources of funds.

• Ensuring efficient cost of funds is achieved: Cognizance must be taken of the cost of capital for the corporate, the cost of swapping back into the home currency and the ability to opportunistically lock in attractive long-term interest rates.

• Maintaining financial discipline: The funding strategy must be developed, taking into account guidelines to manage the financial strength and discipline of the corporate.

• Achieving financial flexibility: This is principally achieved by having access to diversified sources of funds, and maintaining debt capacity to allow the corporate to maintain and even accelerate growth through the cycle.

• Managing the financial risk associated with the funding: There are broad parameters within which the risk can be managed. These include maintaining access to diversified funding sources, building strong relationships with providers of capital and ensuring that they understand how the funding strategy supports the corporate strategy, and maintaining an adequate liquidity buffer to ensure unforeseen events or cash flow volatility can be managed.   

Final tips

In conclusion, a funding strategy should be reviewed at least annually, and possibly more frequently if there is a significant change in the financial position of the group. Furthermore, treasury should educate senior management and the board on the key aspects of the funding strategy. This will give them comfort and increase their support. Specifically, they must be shown that as long as the corporate maintains financial discipline and shows determination in protecting the credit rating, reliance can be placed on the funding strategy to support the corporate in pursuing its strategic objectives.   

Riaan Bartlett, CTP, is a finance and treasury executive based in Pretoria, South-Africa.