At times of economic uncertainty, CFOs focus on cash—where it’s coming from, when it’s coming, how much is coming and what to do when it’s less than forecast?
By Russ Banham
Like other CFOs, Christopher Castaldo is grappling with ongoing inflation, rising interest rates, and prospects of a recession ahead. “Cash is a binding constraint in situations of pronounced economic uncertainty, and these are absolutely challenging times,” said Castaldo, finance chief at the large insurer QBE North America.
When the going gets tough, tough CFOs get going. “Paramount in my thinking these days is putting together well-thought-out plans connecting our earnings, capital and liquidity together,” said Castaldo. “I’m focused more these days on balance sheet management, cost management and thinking about ways to support a growing base of business.”
He is no stranger to difficulty. Prior to joining QBE in 2012, Castaldo was a director of strategic planning at AIG, the giant insurer then in the swirl of a major restructuring following a $182 billion bailout by the federal government in the aftermath of the global credit crisis.
“(Insurers) operate in a highly regulated environment, where we have to maintain a level of solvency ensuring we meet our commitments toward policyholders,” he elaborated. “We need to manage cash flow and solvency against our risk appetite, maintaining adequate capital and liquidity across the different stress scenarios confronting the economy and geopolitical arena. If the stressors are particularly severe, we need to have recovery plans in place as a backstop.”
Castaldo is far from alone among finance chiefs in reinforcing the importance of cash in leaner times. When interest rates rise, consumers tighten their wallets and the price of securities fluctuates wildly, cash preservation is a smart if conservative strategy to fund operations. CFOs turn their attention to working capital, efficiently managing corporate assets and liabilities to enhance operational effectiveness, and to the balance sheet to better formulate plans, budgets and forecasts.
It’s times like these when CFOs must go to battle. “Finance chiefs are experiencing a toxic combination of marketplace volatility, uncertainty, complexity and ambiguity,” said Prashant Patri, a principal in audit and advisory firm Deloitte’s CFO Program, who specializes in cash and working capital services. “This puts pressure on their organizations to maximize and optimize cash within the four walls of the business, from the time capital enters the company, through the period it stays and is managed and invested, through its exit via some sort of transaction.”
You can’t manage what you can’t see, prompting many finance chiefs to centralize both cash visibility and access. “CFOs historically have been very P&L focused, but at times like these it’s critical to have a cash mindset, incentivizing all lines of business to keep their eye on cash, find ways to measure it and then make informed decisions drawn from these metrics,” said Anthony Jackson, a principal in Deloitte’s CFO program specializing in global treasury advisory services.
Not all CFOs fit this profile. “Most CFOs manage working capital with an understanding of the need of it for operations, but few do it strategically,” said Shawn Townsend, a director at business consulting firm The Hackett Group. “They lack the right governance, ownership and technologies to develop real-time insights to manage working capital on an end-to-end basis, resulting in poor visibility into the metrics for business decisions.”
StrategicCFO360reached out to several CFOs to learn their cash management best practices. Across the board, they’ve elevated cash as a strategic priority, despite their companies’ disparate industry sectors and business models. Their tactics include keeping close tabs on cash out the door, more precise pricing across customer segments to enlarge profits, better revenue forecasting and getting a clearer sense of the timing of accounts receivable to take earlier interventions.
CFO Chris Roling is focused on when cash leaves the business at Coinme, an eight-year-old cryptocurrency exchange with a mobile app that makes it easy to buy and sell digital currencies and convert crypto to cash. The company’s 90 employees work remotely; revenue in 2021 exceeded $32 million.
“We’re a fintech that’s still EBITDA and cash flow negative, despite hyper-growth in our sales and valuations,” said Roling, Coinme’s CFO the past four years. “Not surprisingly, I’ve been focused on cash since day one, just more so these days.”
Coinme has done a good job raising cash when needed “but not too much,” Roling said, explaining that too much cash at high valuations sends a message the company needs even more cash before it can enjoy a successful exit. Not that much cash is available to raise these days. “With the investment climate worsening, venture capital is sitting back and waiting for the dust to settle, causing me to focus on our monthly cash outflows,” he said.
In this work, he’s jettisoned the traditional accrual basis of accounting, whereby expenses are recognized before they’re paid. “If we had a $120,000 expense, we’d book $10,000 per month for the year,” he said. “We’ve tossed that and are instead focusing on when cash exits the door.”
The CFO has required every department and budget holder to evaluate and compare cash spend from the prior month to the present month, which requires using “the mother of all spreadsheets,” Roling said. “It’s gives me a good heads up over what they’re spending and whether it make sense.”
In evaluating the cash outlays, he’s no longer looking at a traditional return on investment, where cash payback is projected across years. The focus on month cash needs requires projections in months, not years, Roling said. “It really gets people focused on the cost of things like a systems implementation or an expensive marketing campaign,” he explained. “We’re about six months away from finally getting the water beneath the nostril level.”
By contrast, Castaldo at QBE North America is keeping a sharp eye on accounts receivable to ensure money is being collected at the same pace and rhythm. If the pace of incoming premiums is slower, he explained, “it shows up in our aging reports, which heightens our attention around the risk of bad debts.”
With customers facing cash pressures in the current economy, this risk is arguably higher. “As an insurer, we have an obligation to pay claims; it’s our number one use of cash,” he said. “Consequently, it requires significant attention to our cash flows to meet these commitments.”
The CFO also is keeping close tabs on the valuations of the company’s investment portfolio. Investment-related income is the second largest source of revenue after premium income for insurers. “We don’t want to be in a situation where we have to sell an asset in an economic environment putting pressure on our capital,” he said. “To be sure we have alternatives, we regularly stress test our capital adequacy.”
Altogether, Castaldo is being more deliberate about cash and liquidity, giving a second glance at expenses like travel and real estate utilization, due to the remote and virtual nature of work in the data-intensive insurance industry. He’s also cognizant of the top line. As he put it, “I’m being selective around opportunities in the property and casualty insurance markets to generate premium volume and pick up market share in other pockets of business.”
To support these plans, he is optimizing the value of reinsurance. “When more traditional forms of capital and liquidity are potentially less available, reinsurance as a form of capital for growth is a viable alternative,” he explained. “It comes down to financial flexibility, something I learned during the tough years at AIG.”
Digging into the Tech Toolbox
Tough years come and go, but the difference this time around is the use of automated technologies and advanced analytics solutions to detect where cash is plugged up and determine how to release it.
“There are opportunities out there for CFOs to segment customers across order-to-cash collections and procure-to-pay pricing, looking at behaviors that signal a source of truth for all things cash,” said Deloitte’s Jackson. “The problem is that not enough CFOs use these fantastic tools.”
That’s not the case at CarParts.com, an online provider of aftermarket auto parts with $582.4 million in 2021 revenue. CFO Ryan Lockwood leads a cross-functional team composed of several data scientists using data lake architecture from Databricks and Python’s open source programming language to enhance predictions of profitable revenue.
“I’m not focused on accounts receivable, since we’re a B2B company that’s paid within 48 hours when someone buys directly on our e-commerce platform, or every two weeks in a lump sum by eBay and Amazon that collect credit card payments from customers” Lockwood said. “While I don’t worry about receivables, I am focused on our revenues.”
He’s collaborating with the company’s controller, Kathryn Nguyen, to better forecast revenues by way of determining gross profit dollars. Working with CarParts’ category management and data science teams, different scenarios are floated to optimize pricing.
“The head of our data science team [Elena Ivanova, PhD] will take a small set of SKUs and see if there are ways to maximize gross profits by slightly increasing or decreasing the price of the SKUs in a particular region,” he explained. “For example, if prices are raised or lowered 1 percent, would that generate more or less volume and by extension cash.”
Lockwood and Nguyen also are keeping tabs on the company’s expense load, methodically examining outstanding checks on a vendor-by-vendor basis weekly. “We got into the habit of looking at every check we cut as the pandemic was whipping up in 2019,” he said. “It ensured we maintained financial discipline, something we’re not about to part with.”
CarParts’ vertically integrated supply chain is composed of suppliers across Asia, Europe and Mexico. Due to the recent and gradual normalization of the global supply chain, Lockwood acknowledged that the company has amassed more inventory than it needs. “We elevated the importance of safety stock [during the supply chain crisis] and are now acutely cognizant of when we’ll be able to convert it to cash—something else I’m looking at on a weekly basis,” he said.
The good news is that CarParts.com is essentially debt-free and free cash flow positive, meaning it is generating more money than needed to run the business. “The CEO and I are young guys [Lockwood just turned 40] but we’re old school at heart, focused on revenue, margins, cash flow and the balance sheet,” he said. “We’re confident of making our way through a recession, even a bad one.”
Castaldo at QBE North America also is funding investments in data and analytics, harnessing the company’s own data and third-party data to gather insights that drive faster and more accurate decision-making across the enterprise. Other tech investments are focused on data democratization to further digitize workflows and make work more efficient. “We’re able then to scale the business without having to spend more in the future,” he explained.
It’s good advice for all CFOs. By setting the stage in tough times to enable future growth at less cost, more cash will be on hand as the clouds part and skies brighten.
Russ Banham is a Pulitzer-nominated business journalist and best-selling author.