Cash Stress

Banks and governments are trying to provide enough financial support to avoid economic collapse, but some businesses won’t make it.

The lockdown of entire populations has brought large parts of the global economy to a grinding halt. And just as the virus targets the respiratory system, the sudden closure of entire economic sectors—from the travel and hospitality industries through to automotive manufacturing and bricks and mortar retailing—devastated cash flows and triggered a widespread liquidity crisis.

Central banks have pumped trillions into the system to ensure that markets have the liquidity needed to continue functioning. Governments have launched emergency fiscal programs to mitigate the impacts of lockdown on businesses and individuals. Such prompt actions may alleviate the symptoms of liquidity drying up, but they do not provide a long-term cure.

“Companies in many industries are facing a huge decrease in sales of their products or services, and this has a severe impact on their liquidity,” observes Professor Marco Giorgino of Italian business school Politecnico di Milano.

“The current situation highlights just how vital liquidity is to corporates,” says Wolfgang Koester, senior strategist at Kyriba, the leading provider of Active Liquidity Network. “Cash is king,” he adds, pointing out that early in the crisis international companies repatriated cash virtually overnight to maximize liquidity. “Those that couldn’t do it quickly faced serious currency exposures,” he notes.

But not all companies or sectors have been equally affected. “The impact of the economic downturn caused by the coronavirus differs by sector,” comments Thomas Dusch, deputy head of global transaction banking at UniCredit. “Industries such as pharma and retail, for instance, have been less affected; since they typically possess higher levels of liquidity.”

Some business sectors, like online retailing and entertainment streaming, have seen sales soar; while others have been able to continue operating—albeit under new restrictions.

“We’re confident about liquidity, thanks to continuing operating cash flows and low-season debt levels,” says Bryan Fairbanks, CEO of Trex, a composite-decking company that has continued production at near pre-Covid levels. “Our manufacturing style allows for social distancing; we’re ensuring appropriate supply; and thanks to our conservative balance sheet, we can enter into reasonable levels of debt if necessary to provide liquidity as needed.”

Plunging car sales amid extended periods of national lockdown, on the other hand, have heavily impacted the global automotive sector. Dusch points out that “in Europe, the lockdown measures implemented meant few receivables were produced in the automotive sector from March onward, the result being that by the end of May, payables and receivables will be virtually gone—leaving no stock for payables or receivables financing.”

And when it comes to dealing with this liquidity crisis, size also matters. Whereas larger corporates were swift to strengthen liquidity by tapping capital markets or drawing down revolving credit facilities, for most small and medium-sized enterprises (SMEs) those options were simply not open.

“We are seeing asymmetric shocks,” says Giorgino. “Smaller companies are being hit hardest and face the greatest difficulty in accessing new loans. Some countries are using ‘helicopter money’ to speed up the process of helping the real economy. Others are providing government guarantees for bank loans, which are much slower and do not address the plight of companies that cannot access credit.”

“Various government initiatives provide strong short-term solutions for corporates looking for relief,” says Dusch, “and UniCredit is a leading participator in the Kreditanstalt für Wiederaufbau KfW-Sonderprogramm 2020, a state-funded German aid program for businesses hampered by Covid-19, which seeks to simplify risk assessment for loans of up to €3 million ($3.25 million)—making it easier for banks to grant loans to SMEs and tangibly support the real economy.”

“Once supply chains start up again, banks will be able step in to plug the liquidity gap with more-conventional tools—whether it be through short-term loans or by issuing payables and receivables finance,” Dusch says.

By that time, however, many once-viable businesses will have slipped from illiquidity into insolvency. “There is no time to make credit-risk assessments,” says Giorgino, “as that involves lengthy procedures, and companies will not have the money until it is too late. Governments must increase the speed of intervention in the real economy. Previously flourishing companies need liquidity right now.”

In dealing with this crisis, speed is of the essence. Koester sees a much sharper focus among corporate CFOs on working capital and especially on increasing the speed to ensure payments get through in time. “It’s all about the velocity of money,” says Koester. “Payments used to be settled in two days; now it’s much quicker.”

“While securing liquidity to cover short-term gaps is a critical undertaking,” says Dusch, “the associated costs can be minimized through more-efficient management of existing working capital. Banks like ourselves can help corporates optimize their liquidity through working capital advisory programs that seek to identify the right solution from a range of tools in order to address businesses’ various financial challenges. Corporates looking to achieve the best results will need to establish the unique needs and constraints of their situation and determine the best course of action accordingly.”

For many companies, that includes developing proactive strategies to protect their supply chains. “There are a number of ways in which buyers can support their suppliers, depending on size and financial situation,” says Dusch. “While this has traditionally been done through supply chain finance or ‘reverse factoring’ solutions—which represent a compelling option for supporting suppliers without having to compromise on DPO [days payable outstanding]—this approach is only really suitable for larger suppliers.”

Buyers that still have surplus liquidity can support smaller suppliers directly by offering early payments in exchange for a scaled discount (the earlier the payment, the greater the discount)—a technique known as dynamic discounting, which has been increasingly used to “fix” supply chain disruption during this crisis.

“Our [bank] clients are asking us to implement supply chain finance and dynamic discounting platforms so companies that have money can pay their suppliers as rapidly as possible in return for a discounted price,” Koester says.

UniCredit offers a mobile and web-based dynamic discounting solution created by fintech partner FinDynamic, which allows suppliers to submit invoices for early payment and buyers to select which invoices they would like to approve. “This is particularly valuable now that most treasury departments have to handle their business while working remotely,” says Dusch. “And it is already benefiting our clients, such as luxury leather goods provider Furla and chocolate manufacturer Venchi, which went live on this platform in February and March of 2020, respectively.”

Given the large degree of uncertainty about how coronavirus restrictions will be lifted and whether they may be reimposed in the event of a second wave of infections, CFOs and treasury teams have to adopt wider parameters in their modeling of future outcomes. Koester argues that companies should be doing more liquidity stress-testing: “Not just thinking ‘we can get through to mid-2021’ but running through different scenarios and gaining familiarity with ratios such as quick, current and capital ratios as well, so as to analyze when we could run out of money.”

Some companies have already gone through those kinds of planning exercises. “We did preplanning using internal modeling on how different downturn situations might impact on our liquidity,” says Fairbanks, “which gave the executive team and board of directors confidence.”

Besides making the business safer, maintaining a strong hold on liquidity through the downturn could open the way to future expansion. “We see business opportunities arising, both during a recessionary period and coming out of it,” says Fairbanks. “Because of our financial strength, we don’t need to worry about our cash position or credit availability and can focus on what our customers need when they’re ready to go into growth mode again.”