FinPod

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So I want you to imagine something for a second. It's a Wednesday and you're looking at a company's financial statements. Okay. And I mean, the margins are beautiful. The profits are high. Their quarterly earnings call was an absolute triumph. Right. A total win. Exactly. The investor deck that management just put out looks flawless. You look at it and think, you know, this is a phenomenal, healthy business. Sounds great on paper. Right. But then by Friday, literally two days later, the company is dead. They can't make payroll. The doors are locked. They just cease to exist. Wow. And there's no massive fraud, no accounting scandal, just sudden death. How does a highly profitable company suddenly just go under? It sounds totally impossible when you frame it like that, but honestly, it's one of the most brutal realities in corporate finance. Yeah. Yeah. The structural lesson that overrides, like almost everything else in business, is this. Profitable companies go bankrupt all the time, but liquid companies almost never do. Survival over the next 90 days isn't about profit at all. It's about cash. Okay. Let's unpack this because that feels really counterintuitive to anyone who just, you know, looks at a stock chart. Right. Totally. So our mission today is doing a deep dive into this often invisible world of corporate treasury and liquidity management. It's fascinating stuff. It really is. And for you listening, we're drawing from two core sources today to figure this out. One is a report called corporate liquidity management and strategic asset failures. And the second is a resource guide from the corporate finance institute or CFI titled liquidity first, a strategic guide to corporate treasury management. And both of those sources really hammer home that exact paradox you just mentioned. Yeah. The profit versus cash thing. Exactly. It comes down to understanding the difference between accounting rules and operational reality. I mean, you can be incredibly profitable on paper. Right. You can have this amazing margin story, millions in projected revenue. But if your money is tied up in inventory or, you know, customers haven't paid their invoices yet. You're kind of stuck. You're completely stuck. If you don't have the literal cash in the bank to pay your employees on Friday, it's over. And that puts the corporate treasury team right at the center of the universe. Which makes me wonder, like, what do these people actually do all day? Because if liquidity is the difference between life and death, what does a treasury team do on a normal Tuesday when the sky isn't falling? Well, they essentially manage three distinct but kind of overlapping jobs. OK. The first is what you might call the daily plumbing, cash management. Plumbing. Yeah, it sounds simple. But for a global corporation, it's incredibly complex. They have to ask, like, are the right amounts of cash and the right operating accounts? Oh, I see. Right. Are they in the correct currencies? Across the proper legal entities, all just to meet every single obligation that falls due today. Right. Because if a company has, say, a billion dollars sitting in a subsidiary in Europe, but they have a massive vendor payment due in US dollars in New York by 3 p.m. That European cash does not help them. Wow. Yeah. They have a massive operational problem, even though the total amount of money technically exists somewhere in their corporate ecosystem. Exactly. That is the daily reality. If that plumbing fails, the company halts in hours. That's terrifying. It is. So once the plumbing is handled, you move to the second job, which is liquidity management. This is the strategic layer. OK, the strategy. Yeah. The Treasury team is constantly looking out over the next 90 days. They're basically ensuring the company has access to enough total liquidity to absorb plausible shocks. Like a radar for the next three months. Exactly. And then the third job is short term investing. Because if you have excess cash sitting around after handling the first two jobs, you need to put it to work. Right. You don't want it just sitting under a mattress. You want it in instruments that earn a modest return, but without risking the principal or losing access to it. So you've got the plumbing for today, the radar for the next 90 days and the investment arm to make sure your money isn't getting lazy. You got it. Let's talk about the actual tools they use to manage that 90 day radar, like the levers of liquidity. I see the most obvious one is just cash on hand, right? Yeah, cash on hand, which in the corporate world usually means highly liquid short term investments.

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We're primarily talking about U.S. Treasury bills or T-bills and money market funds. OK, right. T-bills are basically treated as cash because they're backed by the U.S. government and you can convert them to actual dollars almost instantly. Gotcha. But cash is just the first lever. You also have revolving credit facilities. Yeah. People usually just call them revolvers. I always think of revolvers like a massive corporate credit card. That's actually a really great way to visualize it. It is contingent cash. You basically pay a small commitment fee to a syndicated banks to just have the option. Exactly. They have the right to borrow a specific amount of money on short notice on terms you've already locked in. OK. And then there's commercial paper, which, you know, reading through the CFI guide feels like a completely different beast. It really is. Like commercial paper is basically short term unsecured debt, usually maturing in 30 to 90 days. Right. Highly rated companies like Amazon use this to raise really cheap working capital. But it feels like a fair weather friend. I mean, when times are good and the credit markets are happy, you get this super cheap funding to run your daily operations. But as we saw in March 2020 at the start of Covid, the market for commercial paper can just freeze overnight exactly when you need it most. What's fascinating here is that liquidity strategy isn't designed for normal sunny conditions. It's not. No, it is designed for the exact moment when multiple sources of cash fail simultaneously. The commercial paper market freezing is a perfect example of a concurrent failure, which is why you saw companies like Ford, Boeing and General Motors doing something that looked almost panicked in March 2020. Like Ford drew down 15 billion dollars from their revolver. Boeing took 13.8 billion. GM took 16 billion. And they didn't pull those levers because they had 15 billion dollars worth of bills due that specific week. Right. They didn't actually need it right that second. They were grabbing the parachute before the plane stalled because they didn't want to find out a month later that their fair weather friend was gone and the banks were too scared to lend. Exactly. They were securing the cash while the window was actually still open. It's a classic defense of hoarding maneuvers. Wow. But, you know, to know when to pull those levers to survive those simultaneous failures without just totally guessing, a company needs a map. They need to be able to see the cliff before they drive off it. And the sources argue there is one specific tool for this. They actually call it the single most important document in a company during a crisis. The 13 week cash flow model. The 13 week direct cash flow forecast. Oh, man. It is a grueling granular document. It tracks every single dollar coming into the business and every single dollar going out week by week for the next 13 weeks. I have to admit when I first read about this, I was a little confused. Yeah. Like why exactly 13 weeks? And why do we need a special grueling spreadsheet for this when public companies already publish cash flow statements in their quarterly 10Q reports? I mean, can't the board just look at that? Well, the difference is historical accounting versus future operational reality. OK, break that down for me. So a 10Q cash flow statement is an indirect document. It starts with the net income, the profit, and then works backward. Right. It adjusts for non-cash items like depreciation to show you what happened in the past. It's totally looking in the rearview mirror. But the 13 week model is built bottom up. It lists accounting profits. It lists specific physical events. It will say like customer raise one point two million dollar invoice is going to clear our bank account in week four. Oh, so it's super specific. Exactly. Or our debt interest payment of twelve point five million is physically leaving the account in week nine. So it's tracking the actual literal movement of physical dollars, not just the theoretical accounting of them. Yes, precisely. And as for the 13 weeks part, that is exactly one financial quarter. It's the absolute sweet spot for forecasting because it's not too long. Right. It's long enough to see your major working capital cycles play out. You can see your customer payments coming in, your payroll going out, quarterly tax payments hitting.

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But it's short enough that you are still dealing with operational precision based on known contracts and invoices. That makes sense. If you try to project, say, 26 weeks out, you aren't forecasting anymore. You're literally just guessing. You know, this actually clicked for me when I thought about it in terms of my own personal finances. Oh, that's a good way to look at it. Yeah. Imagine for you listening, projecting your own personal bank account exactly 13 weeks into the future. You know exactly which bills are going to hit on which day, like rent on the first car payment on the 15th. And you know exactly when your paycheck clears. If you do that math, you can look at the spreadsheet today and see that, oh, no, in week eight, I'm going to bounce a check. And if you see that coming today, you have two whole months to actually act on it. That is the exact mechanism. A CFO and a board of directors use this model during a crisis to find the trough. The trough. Yeah. The minimum cash balance week. If the model shows that in week seven, the cash balance is going to drop below zero, they know they have a fatal gap. And that's when they look at the levers we talked about earlier. They see the gap. So they ask, you know, do we draw the revolver? Do we aggressively pull forward our receivables? And offering them a five percent discount if they pay today instead of next month. Exactly. Or do we suspend our shareholder dividend? They evaluate every single option. But and this is the crucial takeaway from the CFI guide. It's about the muscle memory aspect. Muscle memory. Yeah. Building this 13 week model in normal times is what separates the survivors from the casualties. It requires pulling data from sales, procurement, HR operations. That's a lot of departments. It is. And if you wait until the crisis is already happening to figure out how to build this map, you're already six to eight weeks behind. Wow. In a liquidity crisis, spending six weeks building the spreadsheet literally means you're bankrupt before you finish it. That idea of peacetime preparation saving you in wartime brings us to an absolute masterclass in crisis survival. I want to look at what happens when that muscle memory is put to the ultimate test. Oh, this is a great case study. Right. So set the scene. March 2020, global air travel collapses overnight. Delta Airlines sees its revenue plummet by 90 percent and they are suddenly burning through 100 million dollars in cash every single day. The truly staggering burn rate. I mean, for most companies, a 90 percent revenue drop with heavy fixed costs leads straight to bankruptcy court. Chapter 11. Yeah. Filing for Chapter 11 protection from creditors just to reorganize. But Delta survive without filing for Chapter 11. They did it by aggressively monetizing every non-obvious asset they had. They managed to raise over 25 billion dollars through a combination of revolver draws, securing debt against their physical aircraft, using government CARES Act support and issuing equity. But the centerpiece of this entire survival playbook was their SkyMiles loyalty program. And here's where it gets really interesting, because most of us, you know, we just think of loyalty programs as a way to get a free flight to Florida. Right. Totally. We don't think of them as financial instruments, but Delta took their SkyMiles program and used it to secure a nine billion dollar bet transaction. The banks value the SkyMiles program at 26 billion dollars as a standalone financing asset. If we connect this to the bigger picture, you really start to see the sheer elegance of how you actually securitize a loyalty program. Delta didn't just borrow money and, you know, promise to pay it back. They created a legally separate entity. Just for SkyMiles. Yes. Because the SkyMiles program generates billions in recurring high margin revenue from credit card partners, specifically American Express. Oh, so every time someone swipes their Delta Amex for groceries, Amex is actually buying miles from Delta. Yes, exactly. And that money keeps coming in regardless of whether Delta's planes are actually flying. Oh, wow. So Delta funneled those Amex cash flows into this separate legal entity. From a bank's perspective, this was an incredibly credit worthy asset. Even if Delta as an airline struggled, this separate entity was sitting on a river of cash from credit card swipes. It's basically like finding out you have a standalone golden goose hidden in your backyard that just keeps laying eggs even when the main house is on fire. That's a perfect analogy. And because of that structure, Delta was able to borrow nine billion dollars against it at a rate of like four point five percent to four point seven five percent. And this was an asset that wasn't even visible on the traditional balance sheet as collateral for the crisis. It was an invisible lifeline. And the broader market recognized how brilliant it was immediately. Like American Airlines followed up with a 10 billion dollar deal against their program and United did a six point eight billion dollar deal. Wow, they all jumped on it. Now, Delta did pay slightly higher interest rates than they normally would have in a calm market. Yeah. But they paid for speed. Right. Because when you are burning 100 million dollars a day, holding out for perfect terms means missing the window to survive entirely. Delta survived because they found a hidden asset during a raging fire. But surely the ultimate goal for a corporate treasury is to, you know, never smell smoke in the first place. Like if you're a company generating massive amounts of cash, how do you build a treasury that prevents a crisis from even forming? You look at the peacetime fortresses. Apple is the prime example in our sources of how to manage treasury when things are calm. OK. They hold approximately 160 billion dollars in cash and marketable securities and is heavily concentrated in those UST bills we discussed earlier. Microsoft operates in a very similar boat with over 130 billion spread globally. I have to push back on this a little bit, though. OK, sure. Isn't sitting on 160 billion dollars in low yield government bonds a massive opportunity cost? Like if I'm an Apple shareholder, I might look at that and ask, why not chase higher yields? Why not put that money into corporate bonds or other investments that generate a much bigger return? It's a really common question. But Apple operates its treasury almost like a sovereign wealth fund. The professional portfolio managers and they follow a very strict hierarchy of needs. Hierarchy of needs. Yes. Number one is liquidity. Can we access this cash today? Number two is capital preservation. Is the principal safe? And number three is yield. Yield is always, always last. But they do return massive amounts of money to shareholders, right? I mean, they aren't just hoarding every single dollar they make. Oh, far from it. They've done over 700 billion dollars in stock buybacks and dividends since 2012. That's insane. It's huge. But the point is that the residual cash they do keep on the balance sheet is managed for absolute liquidity. The overarching lesson from Apple isn't that every single company needs to hoard 100 billion dollars in T-bills. It's about calibration. Your liquidity policy must be calibrated to your specific business's volatility.

[00:15:37:18 - 00:25:18:18]
Apple generates a highly reliable river of cash. But if you are a highly cyclical business like an industrial manufacturer or a retailer, you actually need even thicker relative buffers because your cash flows dry up the second a recession hits. So Apple matched their liquidity strategy perfectly to their economic reality. Exactly. Which naturally leads to the dark side of this. What happens when a company's treasury strategy fundamentally mismatches their reality? Well, then you get catastrophic system shaking failures. The sources highlight two completely different but equally devastating ways this mismatch can destroy a company. Let's start with the one that dominated the headlines and totally terrified the financial system. Silicon Valley Bank, S.V.B. Right. March 2023. The timeline here is the most shocking part to me. S.V.B. had two hundred nine billion dollars in assets and it failed in just 36 hours. It was a spectacular collapse and the mechanics behind it represent a textbook treasury failure. To really understand it, you have to look at the setup between 2019 and early 2022 S.V.B.'s deposit base, which was heavily concentrated in tech startups, grew from roughly 60 billion dollars to nearly 190 billion. Wow. Because startups were raising insane amounts of venture capital during the boom and they were basically just parking all that cash at S.V.B. to use for payroll. Yes. So S.V.B. is suddenly flush with all this cash, but interest rates at the time were near zero. So to generate a return, to chase that yield we were just talking about, S.V.B. took these startup deposits and invested heavily in long duration U.S. Treasuries and mortgage backed securities. Wait, let me stop you right there. If they were buying U.S. Treasuries, which we just established are the safest, most liquid assets on earth, how did they blow up? Because of a specific accounting classification they used. It's called held to maturity or HTM. HTM. When you buy a bond, it pays a fixed interest rate. Yeah. But if the Federal Reserve starts aggressively hiking interest rates, which they absolutely did in 2022, new bonds start paying much higher rates. That makes your older lower yielding bonds way less attractive to buyers. So the market value of those older bonds drops. So the bonds S.V.B. bought were losing value on the open market. But how did a two hundred billion dollar bank hide that from the public? That's where the HTM classification comes in. If a bank declares they intend to hold a bond until it matures in 10 or 20 years, accounting rules actually allow them to ignore the current market price. Oh, wow. Yeah, they don't have to report those unrealized losses on their balance sheet. So on paper, S.V.B.'s equity looked perfectly fine. But in reality, those long duration bonds had lost roughly 15 billion dollars in market value. Which was basically the entire equity cushion of the bank. Exactly. And so the mismatch kicks in when the tech market cools down because venture capital funding dried up in 2022. So those startups started burning through their cash, basically withdrawing their deposits from S.V.B. to run their actual businesses. S.V.B. had to give the startups their money back. But to get the cash to do that, S.V.B. had to start selling those long term bonds. And as soon as they sold them, the HTM accounting illusion vanished. They had to recognize the loss. Exactly. They had to take the actual market losses, which made that 15 billion dollar hole visible to the public. And their depositors, who were mostly uninsured because their startup accounts held millions of way, way over the two hundred fifty thousand dollar FDIC limit. They looked at this and panicked. Totally understandably. Yeah. They realized the bank's assets were tied up in bonds that were underwater, but their deposits could be demanded back at any second. So on March 9th, depositors requested a staggering 42 billion dollars in withdrawals in a single day. This raises an important question. Yeah. Was S.V.B. fundamentally insolvent or are they just illiquid? The reality is if S.V.B. could have just held those government bonds for 10 years, they would have been paid back in full by the U.S. Right. But they suffered a classic liquidity failure. They couldn't survive the 36 hours it took to find out. It's the ultimate duration mismatch. You know, the analogy that always helps me with this is imagining you borrow 10000 dollars from a friend and you promise you'll give it back to them tomorrow. But you take that money and you lend it to your cousin to help fund their 30 year mortgage. Right. When your friend knocks on your door on Tuesday asking for their money, you are bankrupt. It doesn't matter that your cousin has a great job and will definitely pay off the mortgage over 30 years. You do not have the cash today. That is exactly what S.V.B. did. You just cannot fund 30 year assets with deposits that can vanish in 30 seconds. They violated Treasury 101 match funding the duration of your liabilities with your assets. OK. So S.V.B. was destroyed by a duration mismatch hidden by accounting. But the CFI guide also brings up another failure like a completely different kind of mismatch. Toys R Us in 2017 and 2018. Yeah. Toys R Us is explicitly named as a cautionary tale of a capital structure colliding with competitive reality. So following a leveraged buyout in 2005 by private equity firms, Toys R Us was carrying about five billion dollars in debt. And for a while they could actually handle the interest payments. But then Amazon and big box retailers really started turning the screws. Yeah. They compressed Toys R Us margins and the operating cash flow from actually selling toys started weakening. Meanwhile in the background, the clock was ticking. They had roughly four hundred million dollars in senior debt maturing in 2018. They obviously didn't have the cash to pay it off. So they needed to refinance. Meaning basically borrow new money to pay off the old money. Exactly. But when they went to the credit markets to do that, the lenders looked at their eroding competitive mode. They looked at their declining cash flows and they just shut the door. Oh man. Refinancing became prohibitively expensive, which directly led to Chapter 11. You know, this reminds me so much of a past deep dive we did on Hertz. Both of these companies built capital structures that were incredibly brittle to one specific type of shock. Like Hertz was brittle to a drop in the collateral value of used cars. And Toys R Us was brittle to a competitive decline that closed off their ability to refinance. If your underlying business is losing its edge, you just cannot carry a massive debt load that assumes you will be the dominant player forever. You hit a maturity wall, you literally can't climb over. That's the core lesson right there. Over-reliance on short term or refinancing dependent debt without a contingent liquidity plan is fatal when your competitive position deteriorates. Wow. So when you look at all these stories together, the brilliant saves like Delta, the peacetime fortresses like Apple. And the devastating failures of SVB and Toys R Us, a really clear survival guide emerges for anyone trying to understand how businesses stay alive. It absolutely does. The framework for survival starts with building that map we talked about, maintaining a 13 week direct cash flow model in calm times. So the muscle memory is already there before the crisis hits. And part of that peacetime preparation is doing what Delta did, but doing it early. Right. Taking an inventory of your hidden monetizable assets, whether that's a loyalty program, intellectual property, unencumbered real estate. Know what you can borrow against before the fire starts. Alongside that, you have to stress test your business, assuming multiple liquidity sources will fail simultaneously. You have to assume the commercial paper market freezes at the exact same moment you're operating cash flow drops. Right. Furthermore, you must respect the duration match. Do not fund long term assets with short term, flighty cash. And calibrate your liquidity buffer to your own reality. Like don't look at industry averages. Look at how severe your own cash troughs could be based on your specific business volatility. Right. The CFI resource also notes a really human element to all of this to invest in your bank relationships. They point out how Google manages this. Yeah. In a crisis, the banking partner you've been working with transparently for 10 years is the one who returns your panicked phone call first. That relationship capital is huge. So what does this all mean? It means that solvency isn't decided during the panic of the crisis. Solvency is decided in the calm. It's decided on a random Tuesday when the Treasury team decides to build a 13 week model and stress test a worst case scenario that hasn't even happened yet. It is decided in the calm. But I do want to leave you with one final thought to ponder that builds on everything we've explored today. OK. We've established that the 13 week model is the absolute gold standard for corporate survival right now. But look again at Silicon Valley Bank. Modern digital bank runs and information cascades on social media wiped out a 200 billion dollar institution in just 36 hours. 36 hours. Right. If crises now unfold in hours rather than weeks we have to ask a difficult question. Will a 13 week model soon become obsolete. Oh wow. In the world of instant information and digital capital flight will real time A.I. driven hour by hour Treasury modeling become the new minimum standard just to keep a company alive. That is a wild thing to think about. I mean evolving from managing a 90 day radar to managing billions of dollars minute by minute just to outrun a social media panic. That's the new reality. Thank you so much for joining us on this deep dive for you listening. Make sure you keep your 13 week models updated. Keep your bankers on speed dial. And always remember no matter how beautiful that profit margin looks in the investor deck it doesn't mean a thing if you can't make payroll on Friday.