Finance companies should have Contingency Funding Plan (CFP) in place that addresses the strategy for handling liquidity crises and include procedures for making up cash flow shortfalls in stressed conditions. The plan should clearly spell out the available funding sources and the magnitude of funds that can be generated from such sources, including the expected time needed to exploit the additional funding.
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A CFP should contain policies and procedures for management of diverse range of liquidity stress scenarios, identify the authority responsible for activating the plan, define roles and responsibilities of personnel involved in implementation, set escalation procedure and requirement to periodically test and update the plan to ensure its robustness.
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An effective CFP should include:
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| | a. | A description of what constitutes a "liquidity crises event" for the company in quantitative and qualitative terms; |
| | b. | A set of quantitative and qualitative early warning indicators (EWI) to identify an approaching liquidity crisis event. The responsibility and frequency of monitoring each of the EWIs should be clearly documented. Frequent reviews of EWIs should be conducted to ensure they remain relevant; |
| | c. | A list of options for dealing with stress events at different time horizons; |
| | d. | Clear designation of the roles and responsibilities of various personnel involved in the management of CFP and for the stress event in question; |
| | e. | A plan for modifying on-balance sheet asset and liability composition and maturities (e.g., held to mature assets to be liquidated, negotiating extension in the maturity of liabilities etc.,) considering the time to execute for any such plan; |
| | f. | A list of alternate sources of funding in the order of their priority including identification of any backup facilities. An assessment of required time to access each source, the conditions and limitations to their use and the circumstances where the company might use such funding sources should also be documented in a CFP. Management should understand the various legal, financial, and logistical constraints, such as notice periods, collateral requirements, or other covenants that could affect the company's ability to use backup facilities; |
| | g. | A process to track and monitor eligible collaterals for securing backup facilities; |
| | h. | Specific procedures and reporting requirements to ensure timely and uninterrupted information flows to senior management including parameters for escalating any issue to senior management and the Board; and |
| | i. | Plans and procedures for internal communication and interactions between various functions, as well as external communication with supervisory authorities and other stakeholders.
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Finance companies should test and update the CFP, at minimum, on an annual basis to ensure its effectiveness and operational feasibility in the dynamic market conditions. The development and ongoing testing and update of CFPs should be integrated within the company's liquidity stress testing plan and CFPs should be adjusted, where required, in light of the stress test results.
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