wolters kluwer

Local Authority Internal Audit Virtual Forum

22 June 2022


Please note:

  • All Institute responses are boxed and highlighted blue
  • Where the chair comments in that capacity this box is highlighted in yellow
  • For confidentiality, the identities of all delegates/attendees are anonymised

Institute's welcome

Good afternoon, everybody. I am John Wood, CEO at the Chartered IIA UK and Ireland.

The topic for today is ‘Cash Flow Management’. 

Organisations and their internal audit functions face a dizzying pace of change and unprecedented uncertainty. Change and uncertainty are defining 2022 and will continue to define the years that follow. Financial resilience and stability have been paramount issues for organisations during the COVID period and continue to be so with the war in Ukraine and the consequential rise in inflation and cost of living.

Financial risks remain high. Audit committees and senior management may seek independent assurance that cash flow management remains a priority and is under control, and that efforts are being made to monitor the situation outside of the business itself. This may require a confirmation from internal audit that the business is using all available internal and external data to assess the situation as it evolves.

Cash flow management therefore continues to be a source of trepidation, given the volatility in revenue streams. We also know local government cannot simply close up shop when cash dries up.

Cash management includes all activities that a local government operates for maximum availability of money and the optimal rate in investment in securities, within the framework of laws and procedures. Financial planning is an important part of program management.

The objective of cash management is to ensure the availability of sufficient funds to meet the needs of local government with a minimum cost, including the potential costs of not investing free local government money. Let’s explore the topic in more detail today.

Before we commence the session, I would like to provide the normal introductory comments:

I am joined today by:  

  • Piyush Fatania, Chair for today and a member of the Institute’s Council
  • Liz Sandwith, Chief Professional Practices Adviser for the Chartered IIA UK and Ireland
  • Derek Jamieson, Regional Director for the Institute in the UK and Ireland.

Chair's opening comments

Thank you and good afternoon everyone. In amongst the weighty responsibilities of Section 151 officers, the Local Government Finance Act 1988, places one more particular burden on their shoulders. Section 114 of the Act requires the Section 151 officer to report to members if there is or is likely to be unlawful expenditure or an unbalanced budget in year. The council then has 21 days to consider the report and once the council has issued the Section 114 notice, spending on all but essential services must stop immediately. The Notice itself is a statement that the council is in deep financial trouble.   

Those of us who’ve worked in local government and more widely the public sector will know that the financial sustainability particularly in local government has faced numerous challenges. We’ve faced years of austerity where we saw a near 50% reduction in central government funding over a ten-year period, to increased demand for some of the most expensive services we provide, for example, social care. And if that wasn’t enough, we then had the pandemic, where councils took a leading role in the response to that and now, of course, we have high inflation, which is pushing up costs across the board for councils everywhere.

A few years ago, my local council, Northamptonshire County Council, issued a Section 114 Notice and was abolished in 2021, replaced by unitary councils serving the area, but more recently we’ve had them from Croydon and Slough. What they are doing is saying that they’ve run out of money.

What all of this does is demonstrate the importance of cash flow management and it’s important to remember this isn’t just a finance department issue; it’s a whole of council issue. The council needs to manage cash flows, assess the credit worthiness of business partners to make sure that investments, which many councils have made, for example in property, will actually be able to provide a return and make an effort to reduce liabilities.  

Something which the private sector is very good at doing is identifying service users who may default on their payments. When many of the services we provide are of a statutory nature, saying ‘no’ to a service user is not always an option. 

To talk to us today about cashflow management, I’m delighted to welcome Gareth Harris, who is a Restructuring Advisory Partner at RSM and manages the RSM regional restructuring practice. He has over 25 years of restructuring experience working with/ advising financially stressed or distressed clients across the corporate and public sectors. He heads up the Government restructuring sector approach for RSM.


Key takeaways

Slides from the session are attached here. Notes below are supplementary. 

Gareth Harris, RSM UK Restructuring Advisory LLP

  • Thank you for inviting me today to talk about cashflow management in local authorities. I do feel privileged to work across the public and private sectors. This allows me to take ideas from both, particularly around cashflow management because it is a bit of an art as well as a science.
  • Ideally the cashflow would form part of an integrated financial model and one that is used within the Local Authority on a regular basis. This should combine P&L / Balance Sheet and Cashflows. Without cashflow management, it doesn’t really work.
  • It should be a 12-month forecast at least on a monthly basis. You might run a 13 week rolling cash flow model alongside this, which is typically done when cash is tight.
  • There is a balance to be struck between having a comprehensive model with everything that’s needed in it whilst not being overly complex. Those that are too complex are very difficult to maintain/ update and are prone to error.
  • The important thing is that the models are actually used to drive and help cash management within the business.
  • There should be very clear responsibility for running the cashflows – who is responsible for producing this and updating this but more importantly for managing them on an operational basis? Looking at the variances between predictions made and what actually happened is equally as important as preparing the cash flow.
  • Cash management needs to be embedded within the organisation.
  • Need to watch out for “cash leakage” – areas which are not included or not controlled e.g. it needs to include JV’s/ subsidiaries/investments etc. Blind spots often occur in those areas.
  • This is about not necessarily about cost – it is about cash.
  • It is helpful if the cashflows are split by Committed vs Discretionary spend. Would ideally like to see this reflecting what is genuinely committed and has to occur on a set day, e.g. wages, HMRC liabilities vs. what is discretionary and can be moved. What are the levers that can be moved up/down to generate cash?
  • The tone at the top must be very clear that good cashflow management is important and valued in the organisation.
  • All key stakeholders and budget holders must be involved – not just finance.
  • At times of pressure it needs a more command and control structure – decision making is centralised.
  • Assumptions underpinning the cashflows should be clearly documented with the source stated. These shouldn’t be complicated to understand – if they are then they are worthy of challenge.
  • Understand where these assumptions are from, why they’re there, they’re consistent and check these on a quarterly basis.
  • Stress testing is particularly relevant in the current environment. Take the bigger/more risky assumptions (e.g. business rates and future wage costs) and combine two or three of these to get a worst-case scenario. What is the breaking point and when would we start breaching this and must consider borrowing for this?
  • Don’t be afraid to ask the obvious questions!
  • Would always want to see Contingency in terms of cashflow and cost built into models.
  • Take advantage of the full 30 days credit where offered – local authorities often pay much earlier and this can help increase cash available.
  • It’s important to remember that cash is king, and cash can be followed – you can see where the money goes. Even checking opening balances back to bank statements is really helpful.

Chair's closing comments

My first thought was around internal auditors not always being accountants. In councils we have to remember that our target audience is residents or members and a lot of them aren’t accountants either. So as an auditor, if you go in and ask the right questions and can you explain how does this work? How do you ensure this happens? How much cash are you expecting? Can you demonstrate that you’re getting it at the right time? Perhaps those non-technical, non-accounting type questions and if they can’t convince us, they aren’t going to be able to convince our residents and members, so I think it’s useful to keep it at that level as we are able to ask questions.

The other thing I was thinking about was Robin Hood energy, Warrington Borough Council, where something is a bit of a pet project and there are good intentions, but the council and officers commit sometimes to a black hole which can suck up money. I’m hoping that what Gareth has gone through today shows that if done properly can prevent that kind of situation escalating in the future.     


Institute's closing comments

Thank you all.

As usual, notes, chat comments and the slides shared today will be placed on our web pages in the next day or two.

Our programme of forums and topics for the second half of 2022 have now been uploaded to the website. We will shortly send out a meeting invitation so you can ensure the Forums are in your diary.

Following today’s session there may be value in reading our report ‘Avoiding the blind spot: Supporting financial stability and resilience’.

Our topic for the July session on 27 July 2022 is Cyber Response Plans.

Thank you everyone, see you in July.

Thank you for attending. As always, if you have any ideas or suggestions for what we might include in future agendas, please contact Liz Sandwith.

Q&A and chatbox comments

Q: How do you spot if the adverse scenarios used as sensitivities are themselves over-optimistic?

A: They’re essentially ‘what ifs’ there’s no right answer. When doing this work we often debate as a team what the right sensitivities are and what the right combinations are. The important thing is that these are something sensible, e.g., look at the high street and the level of drop from three years ago, what is the national living wage expected to increase to etc. let’s scenario plan for that. There is no point being hugely negative as those things don’t usually all combine. The best way to deal with this is to regularly update the cashflows and check back in to look at the variances – you will have lots of versions of the forecasts and make note of the assumptions used.  

Q: You mentioned that good cashflow models should contain clear assumptions and be capable of being stress tested by management and by auditors. Do you anticipate internal auditors doing the stress testing, or do you anticipate them being part of the team that works on the stress testing and asking challenging questions?  

A: It is more of a questioning role for the internal auditors. My view is that management should be stress testing – that is their role to manage the cash and internal audit’s role is to audit that and ask questions around it. If management aren’t doing this at all, the first question has to be ‘why not’, and the second should be – if you weren’t doing this, what would you be doing, what scenarios would you be running? It goes back to what are the key risks within the organisation – where do you see the key revenue risks and cost overruns? And then maybe looking under the rocks of the subsidiaries and joint ventures where quite often the numbers can be quite large and can make a material difference.

Q: Is there too little emphasis on cash flow management in the public sector when compared to the private sector?

A: There is clearly not enough focus on cash flow management in the public sector. It helps to think of the cash as my money – after all its taxpayer cash and if people thought about it this way they wouldn’t be so blasé about the cash in the organisation.  

Q: How close have local authorities come to running out of cash?

A: Very close! In all likelihood they wouldn’t be allowed to run out by central government. Under S.114 authorities need to be mindful of not incurring more cost and only paying essential expenditure. There is a special situations team within UKGI who deal with this kind of thing and whilst they wouldn’t want to step in and make payments they have been known to make settlements – but they will only do this if the authority has been doing the right things.   

Q: Would it be appropriate to suggest that the issues you identify frequently come from asking the obvious and more simple questions - nobody responsible, lack of skills, omission of key steps, obvious omissions in the work etc. rather than in the detail of your work?

A: I think the scale of the problems is different. The bigger problems come out of the more obvious questions. We as auditors and reviewers often get bogged down in the details and you must step back and consider what is material to the organisation. Those basic questions often do get to the crux of the issue. We often tend to roll things forward on audit plans without much to underpin this. Those obvious questions often get to the nub of the issue, especially when you’re told ‘we’ve always done it that way’ – the key is to ask ‘why’.

 

Q: You mention the need for a command and control culture/structure when cash is tight. How tight do things have to be before command and control is put in place?

A: You’re probably in the position of being borderline Section 114. The stage before that when you’re coming up with an action plan is when I would expect, in a local authority, to move towards a command and control approach. Someone needs to take control of the cash and put in place the action plan to avoid a Section 114 Notice. It goes back to the cost and cash – at that point you’re trying to save cash very quickly to drive it back into the business and those action plans need to be delivered. Similar to in year savings plans - how realistic are they? How likely are they to happen?   

Q: Do you have any tips for how senior management/the exec would help drive that culture of collective ownership of effective cash management of the business? Budget holders across the organisation (outside of Finance) are often lax about confirming expenditure committed and when - any ideas as to how this could be improved?

A: The simplest way is to make sure cash is on the agenda – particularly department agendas and minutes. If it’s not on the agenda it won’t get discussed. Can also set objectives, KPIs and incentivisation etc. The CEO should have it as one of their key priorities and be continuously talking about it, it shouldn’t drop off the radar in six months’ time.

You mentioned ‘collective ownership’ – the organisation pulling together, that helps eradicate the siloed approach to things. This collective ownership is a bigger picture than simply cashflow management?

It is – it’s also about budgets as well. The number of times we hear people say – that’s budgets so that’s Finance’s responsibility – cash is the same. Collective responsibility is important but it does take time – there’s no magic wand to change the culture – it has to be a drip, drip, drip for a long time.

Of course driven from the top – it has to be the CEO’s responsibility, explaining that it’s not just the responsibility of the s.151 – you are all responsible for cash management and finance across the organisation.

I remember doing this as part of an NHS organisation, helping to set objectives for different budget holders across the organisation. This just didn’t compute to start with – it can take time. 

Q: Do you agree poor cash management can lead to large (unexpected) budget variances at year end?

A: Yes definitely. We see it far too often – it goes back to the need to regularly update the cashflows. It may be prudent to do it more regularly now than ever before.