Que.1 Give the meaning of treasury management.

Explain the need for specialized handling

of treasury and benefits of treasury.

Treasury management (or treasury operations) includes management of an enterprises holdings, with
the ultimate goal of managing the firms liquidity and mitigating its operational, financial and
reputational risk. Treasury Management includes a firms collections, disbursements, concentration,
investment and funding activities. According to Teigen Lee E, Treasury is the place of deposit
reserved for storing treasures and disbursement of collected funds. Treasury management is one of
the key responsibilities of the Chief Financial Officer (CFO) of a company.
Need for specialized handling of treasury
Treasury management should be practiced as a distinct domain within the Finance function of an
organization for the following reasons:

One of the most consistent demands on the CFO of a company is that money
must be available when needed, and this becomes a 24/7 task.
The cost of money raised for the business is probably the most crucial metric in a
company for many of its investment and operational decisions. Hence cost of
funds has to be tracked diligently.
Internal financial management in a multi-national corporate entity requires
monitoring of several global currencies.
Globalization of business has thrown up an unbelievable basket of opportunities
for the CFO to optimize the utilization of funds and minimise its costs. This
requires expert handling.
Globalization has also brought in unexpected risks that are not visible to the
untrained eye but can even destroy a business. Who would have thought that
the crash of Lehman Brothers could impact business houses in interior India? But
that was what happened in 2009.
With increasing financial risk shareholders have become jittery about their
holdings and need reassurance often. For a company the Treasurer is probably
the best spokesperson to allay the concerns of stockholders and other interested
parties.
Benefits of Treasury

Managing treasury as an expert subject has many benefits:

Valuable strategic inputs relating to investment and funding decisions
Close monitoring and quick effective action on likely cash surpluses and deficits
Systematic checks and balances that give early warning signals of likely liquidity
issues
Significant favorable impact on the bottom line for global corporations through
effective management of exchange fluctuation
Better compliance with the increasingly complicated accounting and reporting
standards on cash and cash equivalents

Q2. Explain foreign exchange market. Write about all the types of foreign exchange markets.
Explain the participants in foreign exchange markets.
Solution: Foreign Exchange market (forex market) deals with purchase and sale of foreign currencies.
The bulk of the market is over the counter (OTC) i.e. not through an exchange which is well
regulated.
International trade and investment essentially requires foreign markets.
Banks act as intermediaries and perform currency exchange transactions by quoting purchase and
selling prices.
In India the Foreign Exchange Management Act (FEMA) 1999 is the law relating to forex transactions
and its aim is to develop, liberalize and promote forex market and its effective utilization.
Spot market Spot market is a market in which a currency is bought or sold for immediate delivery or
delivery in the very near future. Trading in the spot market is for execution on the second working day.
Both the delivery and payment take place on the second day. The rate quoted is called as spot rate,
the date of settlement known as value date and the transactions called spot transactions.
The forward market involves contracts for delivery of foreign exchange at a specified future date
beyond the spot date and the transaction is called a forward transaction. The rate that is quoted at
the time of the agreement is called the forward rate and it is normally quoted for value dates of one,
two, three, six or twelve months.
Unified and dual markets Unified markets are found where there is only one market for foreign
exchange transactions in a country. They have greater liquidity, increased price discovery, lower shortrun exchange rate volatility and reliable access to foreign exchange.
Offshore and onshore markets During the earlier stages of financial development, forex market
operated onshore i.e. within India. But after liberalisation of the economy, offshore markets have
developed and instruments based on foreign currencies issued by Indian firms are traded in foreign
markets.
Participants in foreign exchange markets

The participants in forex market are the RBI at the apex, authorized dealers (ADs) licensed by the
central bank, corporates and individuals engaged in exports and imports.
Corporates Corporates operate in the forex market when they have import, export of goods and
services and borrowing or lending in foreign currency. They sell or buy foreign currency to or from ADs
and form the merchant segment of the market.
Commercial banks Banks trade in currencies for their clients, but much larger volume of
transactions come from banks dealing directly among themselves.
RBI RBI intervenes in forex market to ensure reasonable stability of exchange rates, as forex rates
impact, and in turn are impacted, by various macro-economic indicators like inflation and growth.
Exchange brokers They facilitate trade between banks by linking the buyers and sellers. Banks
provide opportunities to brokers in order to increase or decrease their selling rate and buying rate for
foreign currencies. Exchange brokers also specialize in specific currencies that have lower demand
and supply to add value to banks. In India, many banks deal through recognized exchange brokers.
Q3. Write an overview of risk mitigation. Explain the processes of risk containment. Write
about the tools available for managing risks.

Solution: Risk mitigation: Risk mitigation is the act of decreasing the riskiness of
a project. Read what this writer has to say about what type of risks are involved
in a project and how a project manager can mitigate these risks. Risk Mitigation,
within the context of a project, can be defined as a measure or set of measures
taken by a project manager to reduce or eliminate the risks associated with a
project. Risks can be of various types such as technical risks, monetary risks and
scheduling-based risks. The project manager takes complete authority of
reducing the probability of occurrence of risks while executing a project.
When delegating tasks to individuals, the technical competency of those
individuals might be overlooked. If so, it increases the chances of the project
being delayed Plan and not meeting the deadline. Such delays can be avoided by
increasing the communication frequency between the team members and
monitoring their work.
Another alternative is to divide a complex task between team members and then
delegate each part to a single individual. By reducing a complex technical task
into smaller simple tasks, the execution time may increase but the chances of
missing the deadline for task completion can be managed as the risk involved in
the task is being diversified by the project manager among multiple individuals.
Steps in a typical risk containment process

Risk mitigation is defined as taking steps to reduce adverse effects. There are fourtypes of risk
mitigation strategies that hold unique to Business Continuity and Disaster Recovery. Its important to
develop a strategy that closely relates to and matches your companys profile.
Risk Acceptance: Risk acceptance does not reduce any effects however it is still considered a
strategy. This strategy is a common option when the cost of other risk management options such as
avoidance or limitation may outweigh the cost of the risk itself. A company that doesnt want to spend
a lot of money on avoiding risks that do not have a high possibility of occurring will use the risk
acceptance strategy.
Risk Avoidance: Risk avoidance is the opposite of risk acceptance. It is the action that avoids any
exposure to the risk whatsoever. Risk avoidance is usually the most expensive of all risk mitigation
options.
Risk Limitation: Risk limitation is the most common risk management strategy used by businesses.
This strategy limits a companys exposure by taking some action. It is a strategy employing a bit of
risk acceptance along with a bit of risk avoidance or an average of both. An example of risk limitation
would be a company accepting that a disk drive may fail and avoiding a long period of failure by
having backups.
Risk Transference: Risk transference is the involvement of handing risk off to a willing third party. For
example, numerous companies outsource certain operations such as customer service, payroll
services, etc. This can be beneficial for a company if a transferred risk is not a core competency of
that company. It can also be used so a company can focus more on their core competencies.
Tools available for managing risks
Risk management is a non-intuitive field of study, where the most simple of models consist of a
probability multiplied by an impact. Understanding individual risks may be difficult as multiple
probabilities can contribute to Risk total probability.
There are many tools and techniques for Risk identification. Documentation Reviews

Information gathering techniques

Brainstorming

Delphi technique here a facilitator distributes a questionnaire to experts, responses are

summarized (anonymously) & re-circulated among the experts for comments. This technique is used
to achieve a consensus of experts and helps to receive unbiased data, ensuring that no one person
will have undue influence on the outcome

Interviewing

Root cause analysis for identifying a problem, discovering the causes that led to it and
developing preventive action

Checklist analysis

Assumption analysis -this technique may reveal an inconsistency of assumptions, or

uncover problematic assumptions.

Diagramming techniques

Cause and effect diagrams

System or process flow charts

Influence diagrams graphical representation of situations, showing the casual influences or

relationships among variables and outcomes

SWOT analysis

Expert judgment individuals who have experience with similar project in the not too distant
past may use their judgment through interviews or risk facilitation workshops
Risk Analysis
Tools and Techniques for Qualitative Risk Analysis

Risk probability and impact assessment investigating the likelihood that each specific
risk will occur and the potential effect on a project objective such as schedule, cost, quality or
performance (negative effects for threats and positive effects for opportunities), defining it in levels,
through interview or meeting with relevant stakeholders and documenting the results.

Probability and impact matrix rating risks for further quantitative analysis using a
probability and impact matrix, rating rules should be specified by the organization in advance. See
example in appendix B.

Risk categorization in order to determine the areas of the project most exposed to the
effects of uncertainty. Grouping risks by common root causes can help us to develop effective risk
responses.

Risk urgency assessment In some qualitative analyses the assessment of risk urgency
can be combined with the risk ranking determined from the probability and impact matrix to give a final
risk sensitivity rating. Example- a risk requiring a near-term responses may be considered more
urgent to address.

Expert judgment individuals who have experience with similar project in the not too distant
past may use their judgment through interviews or risk facilitation workshops.
Tools and Techniques for Quantities Risk Analysis

Data gathering & representation techniques

InterviewingYou can carry out interviews in order to gather an optimistic (low), pessimistic
(high), and most likely scenarios.

Probability distributions Continuous probability distributions are used extensively in

modeling and simulations and represent the uncertainty in values such as tasks durations or cost of
project components\ work packages. These distributions may help us perform quantitative analysis.
Discrete distributions can be used to represent uncertain events (an outcome of a test or possible
scenario in a decision tree)

Quantitative risk analysis & modeling techniques commonly used for event-oriented as
well as project-oriented analysis:

Sensitivity analysis For determining which risks may have the most potential impact on
the project. In sensitivity analysis one looks at the effect of varying the inputs of a mathematical model
on the output of the model itself. Examining the effect of the uncertainty of each project element to a
specific project objective, when all other uncertain elements are held at their baseline values. There
may be presented through a tornado diagram.

Expected Monetary Value analysis (EMV) A statistical concept that calculates the average
outcome when the future includes scenarios that may or may not happen (generally: opportunities are
positive values, risks are negative values). These are commonly used in a decision tree analysis.

Modeling & simulation A project simulation, which uses a model that translates the
specific detailed uncertainties of the project into their potential impact on project objectives, usually
iterative. Monte Carlo is an example for a iterative simulation.

Cost risk analysis cost estimates are used as input values, chosen randomly for each
iteration (according to probability distributions of these values), total cost will be calculated.

Schedule risk analysis duration estimates & network diagrams are used as input values,
chosen at random for each iteration (according to probability distributions of these values), completion
date will be calculated. One can check the probability of completing the project by a certain date or
within a certain cost constraint.

Expert judgment used for identifying potential cost & schedule impacts, evaluate
probabilities, interpretation of data, identify weaknesses of the tools, as well as their strengths,
defining when is a specific tool more appropriate, considering organizations capabilities & structure,
and more.
Risk Response Planning

Risk reassessment project risk reassessments should be regularly scheduled for

reassessment of current risks and closing of risks. Monitoring and controlling Risks may also result in
identification of new risks.

Risk audits examining and documenting the effectiveness of risk responses in dealing with
identified risks and their root causes, as well as the effectiveness of the risk management process.
Project Managers responsibility is to ensure the risk audits are performed at an appropriate
frequency, as defined in the risk management plan. The format for the audit and its objectives should
be clearly defined before the audit is conducted.

Variance and trend analysis using performance information for comparing planned results
to the actual results, in order to control and monitor risk events and to identify trends in the projects
execution. Outcomes from this analysis may forecast potential deviation (at completion) from cost and
schedule targets.

Technical performance measurement Comparing technical accomplishments during

project execution to the project management plans schedule. It is required that objectives will be
defined through quantifiable measures of technical performance, in order to compare actual results
against targets.

Reserve analysis compares the amount of remaining contingency reserves (time and cost)
to the amount of remaining risks in order to determine if the amount of remaining reserves is enough.

Q4. What is Interest Rate Risk Management (IRRM)? Write the components and features of
IRRM. Explain the macro and micro factors affecting interest rate.
Solution:
Interest Rate Risk Management (IRRM)
Interest Rate Risk is the risk

to the earnings from an asset portfolio caused by interest rate changes

to the economic value of interest-bearing assets because of changes in interest rates

to costs of fixed-rate debt securities from falling bank rates

to impact of interest rates on cost of capital used by the firm as hurdle rate for capital
investment

Components of IRRM
IRRM can be broken into three parts: term structure risk, basis risk and options risk.

Term structure risk also called yield curve risk is the risk of loss on account of mismatch between
the tenures of interest-bearing monetary assets and liabilities. For example if investments are held in
7-year assets yielding a fixed 7% return, funded by a 5-year bond costing 6%, but renewed at the end

of 5 years at 8%, there is a loss of 1% during the sixth year. This can also happen if either of the
tenures is on floating and not fixed rates and the rate changes adversely. This situation is called repricing and can be either asset-sensitive or liability-sensitive, depending upon which gets re-priced
first.
Basis risk is the risk of the spread between interest earned and interest paid getting narrower.

Options risk is the term risk on fixed income options i.e. options based on fixed income instruments.
Factors Affecting Interest rates
Interest is usually a significant component of the companys cost of capital unless the company is
funded entirely by equity. It is important to learn the factors that impact interest rates.
Macro factors

Cost of living index: Increases in price levels of goods and services over a period of time
reduce real value of the rupee and push interest rates up.

Monetary policy changes: RBI works with monetary policy to balance the twin objectives of
economic growth and price stability for a developing economy like ours, and interest rate is
automatically affected with increase and decrease of money supply by RBI using repo rates.

Condition of economy: Whether the economy is rapidly growing or its growth rate is
declining can make a difference.

Global liquidity: Global economic environment and availability of funds across the world
does have an impact.

Foreign exchange market activity: Foreign investor demand for debt securities influences
the interest rate. Higher inflows of foreign capital lead to increase in domestic money supply which in
turn leads to higher liquidity and lower interest rates.

Micro factors

Micro factors, meaning factors specific to the borrower, which play a role in the interest rate, are:

Individual credit and payment track record, credit rating

Industry in which the business is operating

Extent of leveraging of the company viz. debt-equity ratio

Quality of prime security and collateral

Loan amount
Q5. Explain the contents of working capital. Write down the need for working capital.
Solution: Working capital is the money invested in the working assets of a firm. A business usually
requires two kinds of capital: fixed capital invested in plant, equipment, buildings, computers and other
long-lived assets; and working capital invested in inventories, receivables, deposits & advances
Contents of working capital
As stated above, working capital comprises the working assets of a firm. What are these assets? Look
at the items in these examples.

A trading business for instance may have to purchase and store products to be sold, paying
for them before they can be sold and cashed. A factory that produces and sells products has to store
raw materials and finished goods, besides having some unfinished materials under process.

A company may also need to allow the customers to pay later instead of insisting on cash at
the point of delivery.

Payments in advance may be required for certain expenses like annual insurance, deposit for
renting the office, foreign currency and tickets for foreign travel or advance fees/deposits for statutory
registrations.

And finally the business must have some idle cash and bank balances for making spot
payments. Each of these requirements takes the form of a working asset:

The first is a working asset or a current asset called inventories.

The second item is called trade receivables or accounts receivable

The third set of items are prepayments, advances and deposits

The final item is cash & cash equivalents.

These assets together comprise the working capital of a business. It is worth repeating here that there
is a separate set of assets including land, building, machines etc. that make up the fixed capital of the
company. We are not talking about those assets here.
Need for working capital
Can a business run without the need to invest in working assets like trade receivables and
inventories? Let us study the following case.

Pachai is a vendor of pani-puris in a makeshift stall of his own at the end of the street in which
he lives.

Every morning he goes to the market and buys the ingredients to make pani-puris for the day,
estimating the quantity based on anticipated sales. He buys more in the weekends, naturally.

He does not pay for the material as he buys on credit.

Through the day he does the processing of the pani-puris to the stage needed, and at 4 pm
sets up the stall and runs it till 8 30 p.m. As he sells the pani-puris he collects cash, and at 8.30 or
earlier, depending upon the demand, he sells his days produce completely.

He goes across to the vendor from whom he bought the ingredients and pays for the supply,
and returns home with the balance money, which is his profit.

The cycle is repeated day after day.

Here is a businessman who, you might say, does not require working capital at all: no idle cash, no
deposits, no receivables and no inventories. But this is an extreme case under ideal conditions. If the
produce is not sold fully it becomes inventory for the next day. Or the vendor might want a security
deposit. Or Pachai may think about expanding by selling a part of his produce in bulk to another stallowner, who will pay once a week. In all these cases he will need to worry about working capital. All
businesses small, medium or big need working capital for survival and growth. The more

widespread the activity, the greater is the need. It is of paramount importance for the financial health
of a business to assess the requirement reasonably correctly, finance it sensibly and control it
effectively and make sure the working assets keep working, are current and do not get stuck. This is
the essence of working capital management.

Q6. Explain the concepts and benefits of integrated treasury. Explain the advantages and
disadvantages of operating treasury.
Solution:
Concept and Benefits of Integrated Treasury
The concept of integrated treasury works on the principle that Treasury can be a single unifying force
of a companys activities in the money market, capital market and forex market; and can help the
company derive synergy.
Synergy is a powerful advantage in business because it brings together two or more activity domains
and achieves a total effect that is greater than the sum of all the individual domains.
Thus a decision related to money market instruments, for example, is taken after reviewing possible
forex actions that could enhance the benefit of the decision.
The Indian rupee is freely convertible on current account and partially convertible on capital account.
This has made it possible to take a combined approach to a treasury issue.
The major functions of integrated treasury are as follows:

Ensuring liquidity reserve

Deploying surplus funds in securities with low risk and moderate profits

Managing multi-currency operations

Exploring opportunities for profitable placements in money market, securities market and
forex market

Managing the sum total of treasury risks with some balancing actions as between the three
markets
The benefits of integrated treasury are:

Improved cash planning and better monitoring of the cash position

Constant watch on the impact of treasury activities on the balance sheet

Greater financial control by integrating budgetary control and financial information

Treasury products Banks sell risk management products and structure loans to business
organisations along with forex services In order to reduce the interest rate or exchange risk. These
can be bought by large organisations. Example ABC Company buys a forward rate agreement from
the treasury and fixes the interest rate on a commercial paper and they plan to issue this commercial
paper after three months. In order to reduce the interest cost of the company, the treasury offers
currency swap for rupee credit loan into USD loan.
The advantages of operating treasury as a profit center than as a cost center are:

Individual business units can be charged a market rate for the service provided, thereby
making their operating costs more realistic.

The treasurer is motivated to provide services as economically as possible to make profits at

the market rate.
The disadvantages of operating treasury are:

The profit concept is a temptation to speculate. For example, the treasurer might swap funds
from the currencies that are expected to depreciate and risk the company cash values.

Management time could be wasted in arguments between Treasury and business units over
the charges for services, distracting the latter from their main operations.

The additional administrative costs may be excessive