Response in times of crisis
Uncertainty over demand and supply chains is creating liquidity pressure across businesses. Previously healthy businesses suddenly face running out of cash in weeks or months. Many businesses are facing imminent financial challenges and some are already contemplating insolvency.
• Explore external financing options with new or existing lenders, and understand how to access the range of support initiatives that have been announced by governments.
Understand what the requirements are to meet your short-term obligations. Evaluate funding strategies, options, markets, lenders and other sources of capital in order to meet your funding needs in the required time frame.
• Assess financing strategies or options and approach lenders to access or amend debt facilities or participate in government-backed funding schemes.
• Create a plan to stay engaged with investors, suppliers, regulators and other key external stakeholders. This is especially important in a business downturn.
• Maintain active dialogue with key financial stakeholders as distance or silence could potentially be perceived in a negative way. Through discussion, determine an appropriate (and practical) level of short-term cash flow management information to send to key financial stakeholders.
• Engage with lenders or alternative funding providers to maximise the total available headroom, if required. Communicating frequently and transparently with lenders can go a long way to easing concerns and setting the stage for a successful balance sheet restructuring.
If you face finance shortages during a challenging environment, you may find yourself in a situation where you cannot meet your current liabilities. There are a number of points you should consider when facing such a situation.
• Borrowers with lower credit ratings may find it more difficult to access capital markets and may find banks and other lenders less willing to renew or increase borrowing facilities. Lenders may demand new terms, such as significantly higher yields or improved collateral, particularly for businesses in highly-exposed sectors. Also, in some cases, covenants in loan agreements may provide lenders with an opportunity to withdraw financing.
• Use short-term forecasting to engage with creditors and funders to seek forbearance and support.
• Consider early discussions with lenders or funders if necessary (if forecasts predict a funding shortfall). Your lenders may approve repayment breaks if you show them a reliable business case that supports such action. Use the cash you save in the short term to support your ongoing and future business operations.
• Try to negotiate or access new facilities or term loans with your current banker.
• Consider debt restructuring, credit mediation (renegotiation of credit lines) in the form of deferral of credit repayments, cancellation of late payment penalties and additional costs of extension of credit for your business, and write-offs, to help you with liquidity.
• Assess your position under existing contracts and whether to terminate or take any other steps to reduce your financial exposure.
• Approach lenders for information on loan schemes supported by the government and any wider lending support they may be able to offer.
• In times of crisis, many governments launch significant support packages for small- and medium-sized businesses, often guaranteeing all or most of the credit being made available.
• Turn to alternative ways for financing business operations to meet existing financial liabilities.
When borrowing money from a bank or any other lending institution, you might be legally obliged by the contract to use the money for the reasons stated in the contract. Using this money for other purposes might constitute misuse of the loan and result in legal problems.
Selecting and raising external sources of finance
Access to debt funding could be significantly more challenging for certain businesses in future, particularly where government support is not available. Try to obtain debt funding advice now to help determine which current and future debt funding capacities and options could be vital for your strategic objectives.
Defining the amount of debt you can afford should be one of the first steps in getting a loan. Raising capital you cannot pay off will only lead you towards new liquidity difficulties and exposure you to new risks. Try to find out how much you can pay monthly and for how long – this will help you establish an amount you will not have trouble repaying.
Taking on a loan from a bank or other financial institution
When raising finance from a bank or other financial institution, you can apply for a secured or unsecured loan based on the type of investment you are trying to raise money for.
• Your investment may include: overcoming short liquidity difficulties, buying new fixed assets or starting up a new product line.
• In general, financing more serious investments would require a secured loan. However, such loans usually bring lower cost of capital and therefore could be more suitable for your business if you have decent certainty of being able to repay the loan.
When applying for finance, the financial institution will base their decisions on your current credit score and your business plan to determine your reliability and ability to repay the loan.
• You can also provide a cash flow forecast to show you can repay your debt on time. Make sure you have all the necessary paperwork (your business’s legal documentation, contracts to confirm your future revenues and so forth) to commence the process of getting the loan.
If you receive more than one offer (loan approval) then asses the long-term aspects of each proposal to choose the one that best suits your business needs. Also, consider your current position and determine whether there have been changes that could impact your projections.
Alternative sources of debt capital
While they may be more expensive than traditional lenders, alternative capital sources typically provide more favourable lending terms.
You may decide to turn to alternative sources of debt capital (typically non-bank lenders) that are well-suited to quickly analysing and funding businesses in financial distress. However, you should be aware that these may come with a high interest rate. Alternative sources of financing can range from suppliers to customers, as well as managing working capital.
• Analyse your options and address the impact of alternative funding routes on your business and objectives.
• Consider borrowing from your family and friends by providing them formal guarantees on their investments.
• Credit cards can also be an option for financing your short- and medium-term initiatives. However, be aware of the typically comparatively high interest rates for this type of financing. If you choose to leave an outstanding balance on your credit card, the bank will charge you an annual percentage rate. You will not have to pay this rate as a lump sum: it will be distributed across monthly payments.
Also consider efficient working capital funding, such as invoice finance and supply chain finance. As an alternative source of financing you can transform your financial supply chain to optimise working capital, realise significant savings, and improve supplier relationships.
• If you are having problems with settling your current liabilities or collecting your receivables, consider your working capital strategy.
• You can sell your slow-moving accounts receivables to financial institutions and enter into invoice financing to raise capital, or you can seek financing through your supply chain. The latter will enable you extend your payment terms and help you improve your cash flow.
Ensuring long-term sustainability
Consider ways to optimise funding arrangements for a less certain future. The need to understand and foresee the financial position under multiple scenarios will support your decision-making process.
• Put in place long-term financing to support a return to normalised trading conditions, including investment and growth.
• Develop financing and lender engagement strategies to support the business with the funding or flexibility to trade through and out of the challenging environment.
• Develop a financial model to stress test financial covenants and analyse headroom under different operating and cash flow scenarios, as it is important to assess the likelihood of a potential loan default.
Whilst liquidity challenges might not be on the immediate horizon, they could arise in the medium term. Taking the time to work through those from a position of financial strength is likely to produce a better result than when financially stressed or distressed. You may also want to consider financial restructuring options if liquidity challenges persist.
• Resetting covenants, addressing maturity dates and potentially right-sizing the capital structure to better fit the long-term operational outlook are potential topics for discussion with creditor groups.
• Refinancing existing lenders or sourcing additional junior capital may be needed. It is important to have multiple parties at the table including non-bank lenders, credit funds and other alternative capital providers.
Carefully evaluate your recovery strategy, as returning to how things were in the past may not be realistic. Consider what has changed following the crisis and adapt to the new circumstances. You may find that restoring everything to how it used to be is costlier and less efficient than embracing new processes and operations. For help tackling operational challenges following a change in circumstances, see here.
• Future trading and operational conditions could look very different and render some products or services or even business units loss-making and unsustainable. It should not be assumed without thorough debate and challenge that the business can or should return to its pre-crisis state in full.
• Challenge the commercial proposition and operating footprint to produce or deliver in a way that supports cash flow objectives and profitability – not just to restart all operations.
• Given the changed trading and operational conditions impacting every business, it is likely some products and services will have become loss-making or cash-flow-stretching. Simplifying the commercial proposition to produce and deliver those that support cash flow objectives and profitability is essential.