It’s crunch time Why businesses

OPINION

Business smarts

The economic cycle has turned. Night follows day. There will be casualties. There always are. Businesses need to be proactive and not reactive facing the year ahead, says economist Cameron Bagrie.

AUTHOR: CAMERON BAGRIE, DIRECTOR, CHAPERON

The economic environment is changing rapidly. Inflation has risen to 6.9 per cent, construction cost inflation is more than 18 per cent, and cost escalation letters are widespread. Inflation is a thief that steals savings and lowers profitability, if not properly managed. Taming inflation means tempering, and potentially belting, growth.

Interest rate sensitive sectors who have done well when interest rates were low are now on notice as interest rates rise, and housing activity slows.

Business basics still apply

The economic environment has been stunning for many but is getting more difficult as a brutal combination of slowing housing activity, staffing challenges, cost escalations, and material availability hit existing cashflow.

But how do you forecast cashflow too and plan, with continued uncertainty over supply, staff, inflation, and Covid’s twists and turns in the background?

Some business basics still apply. Margins are everything, to state the obvious. Improving working capital means making the cashflow cycle as short as possible—aka high inventory turnover and collecting debtors fast. Remove unnecessary costs.

Make sure the debt structure matches the business asset profile and cashflows appropriately.

A changing banking landscape

It is tougher to get a housing loan, driven by loan-to-value ratio restrictions, rising test mortgage serviceability rates, the implementation of the Credit Contracts and Consumer Finance Act (CCCFA), rising interest rates and house prices starting to fall.

The implementation of CCCFA drew a furore from mortgage brokers, borrowers, and banks. The CCCFA made accessing credit more difficult and it went down like a lead balloon. People overlooked the fact that double-digit housing credit growth is not sustainable. A tightening environment for credit courtesy of the CCCFA, or shifting bank risk tolerance, does not only impact the housing market, though. Caught in the net too are businesses with lending secured by residential property. The house is the implicit financing and working capital vehicle for many businesses.

There are also long-standing issues in terms of firms accessing credit and many businesses’ bankability.

BE A BETTER BANKABLE BUSINESS

The finger cannot just be pointed at the environment and banks. Want better access to working capital? Then being a better bankable business is a major step. A better bankable business is also a better saleable one. Here are five things we see at Chaperon: 1. Go early to your bank for any request—it now takes longer to process due to the CCCFA. Support application with plans and forecasts, and make sure you detail how you are mitigating risks and challenges. 2. Never present a problem—present a solution.

The issue

What caused the issue

What you are doing about it: plan A and B

What is required from the bank and how it will be repaid. 3. If you have covenants, make sure you fully understand how they are defined and calculated. Businesses with lumpy profitability (make losses in some months), or strong seasonality, who are measured on a quarterly or rolling quarterly basis, can be caught in breach of interest cover or debt to earnings type covenants in quiet months or Covid-impacted periods. 4. Understand your sales, profitability drivers, gross margins, labour productivity and overheads, so you can forecast your breakeven position along with the negative cash impact of downside performance. 5. Understand where your cash is in your balance sheet and be able to explain the length of your operating cashflow cycle and the steps you take to minimise it.

Improving working capital means making the cashflow cycle as short as possible—aka high inventory turnover and collecting debtors fast.

Tighter credit conditions and a turn in the housing cycle could make 2022 a crunch year for undercapitalised small-to-medium sized businesses (SMEs), which have so far hung on through Covid, surging inflation, supply chain challenges and staffing difficulties.

A net 60 per cent of businesses expect it to be harder to get credit over the coming year according to ANZ’s Business Outlook Survey. It has been negative (harder) since 2016 and trending lower.

The Organization for Economic Co-operation and Development’s (OECD) Economic Survey on Australia in September 2021 pointed out various issues around accessing finance and highlighted longstanding concerns about financing constraints on SMEs in Australia.

The same applies in New Zealand but dialogue on the issue is missing. Chaperon is championing businesses on business credit issues. Access, terms, or more bluntly, ensuring businesses get a fair suck of the sav.

Business impacts as banks shift gear

One-size-fits-all loan assessments appear the norm now, lacking flexibility with insufficient recognition of an individual’s balance sheet strength. The days of a clever business banker dressing a business loan in housing attire look to be ending. People are turning more and more to non-banks who appear to offer more flexibility and a quicker turnaround, though at a price.

Small businesses will be a potential casualty of the CCCFA and turn in the property market, with these changes limiting access to working capital at a time when disruptions to cashflow are rising.

The views expressed in this article do not represent financial advice.

About the author: Cameron Bagrie is the managing director of Bagrie Economic and partner and director of Chaperon – helping businesses navigate banking. www.chaperon.co.nz

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