by Patrick Sherrington, Director for Corporate Asset Finance, Lloyds TSB Corporate Markets
Read through the financial pages of any newspaper and you will be hard pushed to find much in the way of good news. In the UK, one of the countries hit hardest by the economic downturn, the economy contracted by 1.5% during the last quarter of 2008, following a slide of 0.6% during the previous quarter. Many companies are struggling to maintain liquidity in an environment where credit may be harder to obtain and certainly more expensive, while revenues may be less predictable than in recent years. The immediate temptation by a business may be to freeze their budgets and cut costs, but those best placed to survive the recession and possibly emerge more competitive are those that take a longer-term approach to their investment programmes.
…those best placed to survive the recession and possibly emerge more competitive are those that take a longer-term approach to their investment programmes.
Investment in Competitiveness
While managing the cost structure is, of course, vital for any business, successful companies will be those who recognise where cost savings can be made without inhibiting the business, and understand the need to invest in the short term to create efficiencies in the longer term. In particular, abandoning or postponing capital investment projects in favour of creating short term cash reserves is likely to be detrimental to the company’s long term future where such projects have the potential to reduce production costs, improve productivity, increase quality at lower cost or create other competitive advantages. Over the past few years, there has been enough business to go around, but firms are now fighting for fewer consumer dollars. Ensuring the company is as competitive as possible is not about cutting short term costs but positioning the company so that it has a stable cost base in the long term and can take advantage of commercial opportunities as they arise. While the current economic crisis is global in its scope, this does not necessarily mean recession for countries in Asia and South America, for example. Rather, these regions are seeing the meteoric growth that they have experienced in recent years slowing. Consequently, unless companies in other parts of the world position themselves now, they will no longer be competitive once economic fortunes turn compared to firms in these regions.
It is understandable, however, that in a climate where funding is difficult to obtain and expensive, it would appear foolhardy to consider large-scale capital investment projects which utilise surplus cash and require funding. However, treasurers recognise the need to invest in the company’s future, and will consider alternative funding mechanisms to traditional financing such as bond issuance or drawdowns under revolving credit facilities. Some cash can be unlocked from the working capital cycle by improving the efficiency of the financial supply chain. However, while this approach is very helpful in creating day-to-day liquidity and reducing the need for short term financing, it is usually insufficient to release the large amounts of cash required for financing even modest capital projects.