Counterparty Downgrade and a Hard Payment Deadline
Halcyon Foods holds EUR 300 million of surplus cash against an investment policy that permits: bank deposits up to 20% per counterparty, a minimum long-term rating of A- (A3), maximum maturity 12 months, and money market funds up to 40% of the portfolio, restricted to AAA-rated LVNAV funds. On Monday the group's two main deposit banks are downgraded from A to BBB+ with negative outlook following a sovereign review. Halcyon holds EUR 58 million with Bank X (19.3%) and EUR 35 million with Bank Y (11.7%), both in callable deposits with 7 days' notice; the MMF holding is EUR 120 million (40%). Treasury must also fund a EUR 20 million supplier prepayment in 5 business days and a EUR 60 million acquisition escrow in 15 business days. The policy contains no grandfathering or deviation clause, and the investment committee next meets in three weeks.
1. Identify the policy breaches and evaluate the options for curing them.
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Two breaches exist. The rating floor of A- is breached by both banks, which makes EUR 93m (31% of the portfolio) ineligible regardless of the fact that each individual exposure sits within the 20% concentration limit. The MMF holding at exactly 40% is at the limit, not over it, but leaves no room for manoeuvre.
Curing options, assessed honestly. Withdrawing the callable deposits is the obvious route, but seven days' notice means cash arrives around day 8 - too late for the EUR 20m payment due on day 5, so the deposit withdrawal cannot be the funding source for that payment.
There are three defensible courses. First, use an emergency deviation provision, if the policy has one: act, document, and report. Since there is no deviation clause, the CFO and treasurer should jointly approve a documented exception under their delegated authority and present it to the committee within 24 hours of its next meeting. Second, serve notice on both banks immediately to shrink exposure to the minimum operating balance, accepting that the funds arrive on day 8. Third, replace the deposits with compliant instruments as they mature.
What is not defensible is holding to maturity to avoid realising a loss. The breach is the rating, not the mark-to-market; a deposit at a downgraded bank is off-policy whether or not it is sold.
2. Recommend a liquidity plan that funds both payments compliantly and restores the portfolio within policy.
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Work backwards from the two dates. Day 5 needs EUR 20m; day 15 needs EUR 60m, a total of EUR 80m.
Day 1: redeem EUR 25m from the MMF. Settlement is T+1, so cash lands in time for the day-5 payment, and the MMF falls to 31.7% of the portfolio, back inside the 40% cap. Also serve 7-day notice on Bank Y for the full EUR 35m and on Bank X for EUR 38m, retaining only EUR 20m with Bank X to keep operations running.
Day 8-10: the EUR 73m of deposit proceeds arrive. Place them with compliant counterparties at A- or better in tranches of no more than EUR 25m each, so that no single name breaches 20%. Park the escrow money, not the whole amount, in T+1 instruments: overnight reverse repo against high-quality collateral and short-dated government bills are the right home for funds that must be certain on day 15.
Day 12-14: confirm the escrow balance in same-day funds, allowing a settlement buffer of at least EUR 2m for timing differences, and keep at least EUR 20m unencumbered as an operational buffer.
Guardrails: do not fund the escrow from the MMF alone, because a 40% cap plus a EUR 60m call would leave the portfolio with no liquid cushion if the acquisition completes late or the escrow is drawn early.
3. Advise on the governance and policy changes this episode shows are needed.
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The episode exposes a policy that assumes ratings never change. Four changes follow.
First, add a downgrade protocol: automatic notification to the treasurer and CFO within one business day of any rating action, a documented breach log, delegated authority for the treasurer and CFO to act jointly, and a defined cure window (for example 20 business days) with mandatory reporting to the investment committee. Without this, the organisation either breaches silently or freezes.
Second, tighten the limits. A 20% single-name limit across only a handful of banks means the portfolio is concentrated in exactly the names most exposed to a sovereign review. Reduce the single-name limit to 12-15%, add a cap on any single sovereign and banking system, and create a minimum 25% bucket in T+1 government bills or repo so that liquidity never depends on callable deposits with seven days' notice.
Third, add a fund-level cap within the MMF bucket (say 20% per fund), because a 40% aggregate limit can still sit with one manager.
Fourth, make rating surveillance a standing control - automated alerts on all approved names, reviewed monthly by the treasurer and quarterly by the committee. Governance matters here: report the breach and the cure to the audit committee and make it visible to external auditors. A hidden breach discovered at year-end is far more expensive than one that was managed and disclosed in the same month.