The only thing for certain is change, so how can finance managers best position their Council to make the most informed decisions today? How can Councils retain the flexibility to adjust their treasury risk position as the uncertainty of the future state unfolds?
In this article, Brett Johanson from PwC New Zealand summarises the key considerations for building a strategy that will see treasury teams through all manner of financial and economic conditions.
The uncertain economic environment
Uncertainty for ratepayers is accelerating due to a range of economic factors. These include the higher cost of living and borrowing, contraction in household balance sheets, and fluctuations in the job market. External factors such as questions about the future of local government, water reform, the Reserve Bank of New Zealand’s inflationary outlook, as well as changes within central government are adding to this sense of unpredictability. Add to this, concerns around global growth and geopolitical risks.
This instability creates volatile financial markets and amplifies planning challenges. These range from complexities in delivering capital programmes and long-term debt forecast uncertainties, to the funding of operating deficits and additional liquidity buffer requirements. Consequently, proposed general rate increases are inconsistent with 2021 Long-term Plans (LTPs) as higher borrowing costs, debt funding requirements and the rising tide of cost increases squeeze the fiscal envelope.
How to approach treasury management
In this volatile environment, applying a robust treasury framework is essential. It includes:
- Making Liability Management and Investment Policies (Treasury Policy) the foundation of your approach, supported by timely information from business units.
- The purpose of the policy is to help smooth a Council’s transition to new financial market conditions. It allows time for a Council to adjust its operating and capital budgets; also to reset its revenue and financing strategy.
- Mandating a minimum portion of fixed rate debt and enforcing borrowing and liquidity limits is a key principle.
- Utilising flexible risk management instruments, like interest rate swaps.
Treasury strategies for uncertain times
Your strategy should hinge on proactively managing future treasury risks, through tailored strategies and effective execution.
Key approaches to keep in mind are:
- Protecting your cash and improving cash flow visibility by effective debt and cash flow forecasting.
- Maintaining sufficient liquidity to manage through potential cash flow challenges.
- Knowing your Council’s credit rating factors and New Zealand Local Government Funding Agency (LGFA) financial covenant sensitivities.
- Understanding your Council’s liquidity, debt funding and interest rate strategy:
- Scenario test and challenge to understand the impact of critical sensitivities upon policy compliance, LGFA debt capacity and credit ratings impact.
The net interest expense financial covenants may be more of a constraint over the planning period.
- Provide timely and accurate capital expenditure and funding information to your finance teams.
- Conduct regular project delivery and funding conversations with your asset managers and project management team.
- Keeping well informed of the conditions and the impact on your organisation.
- Part of this means adopting a “no surprises” policy to ensure key stakeholders are on the same page.
- Have conversations early and maintain regular stakeholder engagement with key audiences (councillors, LGFA, rating agencies, trustees and asset managers).
Maintaining policy compliance but adopting a forward-looking strategy will enable you to proactively manage through unpredictable times.
How PwC New Zealand’s Treasury Intelligence tool can help
Given the context outlined above, it is critical for finance teams to use analytical tools to support successful treasury management outcomes, particularly in times of uncertainty.
One such tool that a number of Councils are now using is our PwC Treasury Intelligence platform, which provides the flexibility to understand the magnitude and impact of changing assumptions against key measures such as treasury policy limits, LGFA financial covenants and stakeholder requirements.
We developed the tool to be an easy-to-use platform. It has been created to help local government managers of financial risk design their liquidity, funding and interest rate strategies, from a trusted calculated risk position, in real-time. It enables finance professionals to:
- Create and test different treasury strategies.
- Evaluate current and projected risk positions to test policy compliance.
- Understand projected cost of borrowing and financial covenant outcomes.
- Report treasury risk positions to Risk Committees and Council.
The future will continue to be full of challenges for local government, and managing treasury risk should be a key consideration for your Council. We are always happy to have a discussion and provide our insights, and if you think the Treasury Intelligence tool would help, we would be happy to demonstrate this to you.