1 Give the meaning of treasury management.

Explain the need for specialized handling of treasury and

benefits of treasury.
Ans Treasury Management Treasury management is the planning, organising and control of funds
required by a corporate entity. Funds come in several forms: cash, bonds, currencies, financial
derivatives like futures and options etc. Treasury management covers all these and the intricacies of
choosing the right mix. 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 specialised handling of treasury

 Treasury management should be practised as a distinct domain within the Finance function of an
organisation 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.
 Globalisation of business has thrown up an unbelievable basket of opportunities for the CFO to
optimise the utilisation of funds and minimise its costs. This requires expert handling.
 Globalisation 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 spokes person to allay the
concerns of stockholders and other interested parties
Benefits
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 favourable 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
2 Explain foreign exchange market. Write about all the types of foreign exchange markets. Explain the
participants in foreign exchange markets.
Ans Foreign Exchange Market 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, liberalise and promote forex market and its effective utilisation.
Types of foreign exchange market

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. 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
short-run exchange rate volatility and reliable access to foreign exchange. In contrast, dual markets
are found in countries with multiple exchange markets

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
The participants in forex market are the RBI at the apex, authorised 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.
 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

3 Write an overview of risk mitigation. Explain the processes of risk containment. Write about the tools
available for managing risks.
Ans Mitigation of Risks
It is important that an organisation is not only aware of the risks before it impacts their bottom line, but
has well-laid action plans to meet the risks and mitigate its adverse impact.
Risk Mitigation – An Overview Here is a bird’s-eye view of risk mitigation methods and processes that
will help you to appreciate the details of the subject that you will be studying in this and the 4 units that
follow this unit.
Risk mitigation can be handed in four ways:
a) Risk avoidance: We can withdraw from an activity perceived to be risky, and elect not to go through
with it.
b) Risk transfer: We can insure ourselves against the risk and transfer it to another party called the
insurer.
c) Risk sharing: We can disperse the risk element in an activity and reduce its impact, by the use of
derivative instruments,
d) Risk acceptance: We can build our competence and capability to deal with the risk by detailed study,
research and methods developed specifically for the concerned activity and its risk component.
Processes for risk containment
The basic steps in a typical risk containment process are:
 Establishing the context i.e. analysing the strategic and organisational context in which risks
occur
 Identifying risks i.e. defining the risks associated with business, to have a fundamental
understanding of the activities causing risk of loss
 Quantifying risks i.e. measuring the probability, frequency and hence the value of the risks,
besides listing non-quantifiable effects of the risks
 Formulating policy i.e. providing a framework to handle risks, which lays down standard levels
of exposure and policy guidelines for each level
 Evaluating risk i.e. ranking the risks based on priority, and aligning action and cost thereof with
the rank
Tools available for managing risks
Risk management tools do analysis and implementation of methods for mitigating risks. The major
tools available for risk are:
 Failure Mode Effects Analysis (FMEA): This tool is used for identifying the cost of potential
failures in business. This method can be applied during analysis and design phases of new
business to identify the risk of failure.
 Fault Tree Analysis (FTA): The tool is used as a deductive technique to analyse reliability
and safety of an organisation.
 Process Decision Program Chart (PDPC): The tool identifies the different levels of risk and
the countermeasure tasks. The process of planning is essential before the tool is used for
measuring risks.

What is Interest Rate Risk Management (IRRM)? Write the components and features of
IRRM. Explain the macro and micro factors affecting interest rate.
Ans 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.
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.
Features of IRRM
Following are the features of corporate IRRM process:
 Clarifying the policy with regard to interest rate risk
 Constant watch on market rate fluctuations and studying its relevance to the firm’s cost of
capital
 Fixing the band beyond which interest rate changes should trigger corrective action
 Special attention to long-term fixed exposures in investments as well as funding decisions
 Effective, unambiguous and timely reporting on IRRM to the CEO and the Board
Factors Affecting Interest Rate
Interest is usually a significant component of the company’s 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