AS THE recession drags on, companies both big and small are finding more creative ways to stretch every dollar and make the best use of their capital.
Han Kwee Juan, managing director and Singapore country head of Citi's global transaction services, says that the financial crisis has made companies everywhere think much harder about the way that they use the funds at their disposal.
'One of the main priorities that we've seen from companies in the current environment is to generate new sources of funds,' he says.
That ranges from simple measures such as reducing unnecessary travel or other expenses, to the setting up of highly sophisticated liquidity-management structures used by some large multinational companies to channel cash from subsidiaries worldwide into a common pool.
That companies are looking to milk the most from their available funding sources is no surprise, he adds. 'In the current economic environment, companies are faced with increased challenges in generating sources of funds.'
Tan Yew Kiat, founder and general manager of fashion retailer bYSI International, says that his company recently took out a $500,000 loan under the new government-backed loan scheme administered by Spring Singapore, aimed at helping small and medium enterprises.
'That's really helping our liquidity,' he says.
The company has also been negotiating with its suppliers for better terms, hoping to extend payment deadlines for new supplies from 30 days to as long as 45 days.
Export-oriented players worldwide have been among the hardest hit by the contraction in funding sources and the collapse in demand from major export destinations such as the US and Europe since the financial crisis began.
Last month, the World Trade Organization warned that global trade volume could contract by 9 per cent this year - the biggest such decline in total exports since World War II.
It expects exports from developed economies to fall by an average of about 10 per cent, and exports from developing countries to shrink by 2-3 per cent.
'The depleted pool of funds available for trade finance has contributed to the significant decline in trade flows, in particular, in developing countries,' WTO director-general Pascal Lamy said at the time.
It estimates that world trade volume grew just 2 per cent last year - less than half the 4.5 per cent growth it had forecast a year earlier, mainly due to 'the unexpected and very sharp drop in global production in the fourth quarter of 2008'.
Mr Han says that the traditional sources of capital-market funding such as the commercial paper and bond markets, as well as syndicated loans, 'have shrunk considerably'.
Another problem, he says, is that in the boom years when funding was both cheap and easy to obtain, many companies got used to running their businesses with high working capital needs - extending generous payment terms to customers, paying suppliers quickly, and accumulating large inventories - without incurring much penalty.
'Traditionally, large companies rarely placed a high priority on working capital as the previously abundant and relatively cheap credit meant that the cost of working capital inefficiencies was low.'
Big companies, in particular, had access to a whole range of low-cost financing options besides traditional bank loans.
They could raise the funds that they needed from capital markets by issuing bonds or equity, or hybrid instruments such as convertible bonds. At the height of their popularity in 2007, even smaller companies here were issuing convertible bonds at low interest rates to raise cheap funds.
Convertible bonds give buyers the option to exchange their bonds for shares in the issuing company. That embedded option is especially valuable when investors expect share prices to rise in future, so that companies issuing convertible bonds in a bull market could borrow at much lower interest rates than with ordinary bonds.
'But increasingly, as the cost of borrowing has risen sharply due to the credit crisis, corporates are placing a renewed focus on optimising working capital and finding alternative sources of funding to reduce their reliance on capital markets,' Mr Han says.
Key priorities
As a result, 'preserving and maximising the use of working capital has become a key priority' for most companies, he adds. Now, he sees more companies taking a good, hard look at how they pay suppliers, when they receive payments from customers, and how to make the trade terms more favourable for themselves.
In some cases, the trade terms are no longer determined entirely by the business division in charge of managing sales.
Turning working capital into a source, rather than user, of cash may seem counterintuitive, but it is possible if companies use it more efficiently, he says.
Indeed, the worldwide economic slump that followed the credit crunch has driven up the cost of all kinds of funding, not just borrowing, which makes it even more urgent that companies make the funds that they do have work as hard as possible.
Raising money from the capital markets is still possible for some, 'but it's simply more expensive', Mr Han says. 'For rights issues, for example, you're seeing bigger discounts in today's market than when you have a bull market.'
So in many cases, companies conclude that their least expensive option is to try to deploy their own internal funds as efficiently as possible. An important first step is to examine in detail the way that their cash is used across their entire financial supply chain, says Mr Han.
That includes getting up-to-date information on their cash balances and trade receivables, as well as any cash paid to suppliers and distributors. Companies also need to monitor the cost of any inventory they keep, and their existing relationships with banks and other credit providers that they can tap for funds if necessary.
For bigger players, with a large network of suppliers and distributors that form a complicated supply chain, working out which part of the chain should get priority can be a much more difficult task.
A failure of a key supplier would cause far-reaching disruption to the production pipeline of a manufacturing company, for instance.
He cites as an example a Citi customer, 'a major US apparel retailer', that was concerned that a number of its suppliers - including several based here - were having difficulties obtaining funding from their banks to buy materials and produce clothes.
The retailer approached the bank for assistance, and 'we were able to provide financing throughout its supply chain, by forging collaborative partnerships with banks in those markets, and extending risk participation through its export and agency finance connections'.
In times like these, companies should examine all possible financing options, including those that were previously ignored when bank loans were cheap and easy to get.
'Clearly, with a general reduction in availability of direct credit, companies can turn to other tools available to them. These financing techniques provide incremental credit over the direct credit facilities that they receive from their banks.'
For export-oriented players, these tools include letters of credit from banks, and credit insurance from insurance firms or export credit agencies such as Hermes, Coface or Sinosure.
Here, the Singapore government has also stepped in with new trade finance schemes to help medium-size and large exporters obtain loans and trade insurance, first announced in the Budget on Jan 22.
Since March 1, IE Singapore has offered a trade credit insurance programme, known as the Export Coverage Scheme.
Through this, the government subsidises half the insurance premiums, up to $100,000, for Singapore companies that take out policies with qualified credit insurers.
IE Singapore is also offering to underwrite additional trade credit insurance, up to $10 million, for companies that need coverage exceeding the maximum offered by the private-sector insurers participating in the scheme.
Another government initiative offers to insure up to 75 per cent of the risk on loans under the Loan Insurance Scheme that are beyond the capacity of private-sector insurers.
And despite the overall slump in Singapore's export trade, the business of extending trade finance has actually become more profitable for banks, due partly to the higher rates they can now charge.
As more companies switch from open-account trading - which became popular when the risk of trading partners defaulting was considered small - back to using traditional trade financing products such as letters of credit, some banks have even seen a surge in transactions, although overall trade activity has dropped.
Still, the main reason that more companies are returning to conventional trade financing tools is the worry that their trading partners may default - a risk that banks must also consider when extending a loan.
Three angles
'The evaluation of trade finance credit can be done through three angles,' Mr Han says.
'Clearly, the first angle of evaluation will be based on the financial strength of the company, which will be largely based on its cash flows, level of debt and the types of collateral that it can offer. This is not too dissimilar from straight lending or a regular business loan.'
'But trade finance can also be done based on the incremental collateral that can be gained from a trade flow, such as with letters of credit, where banks provide financing to the company based on the strength of the financial institutions.
'The third angle will be based on the strength of the buyers and their payment behaviour through the years. If a company has financially strong buyers or buyers who have been prompt in their payments, then banks can take comfort from these factors to provide some level of financing as these provide evidence of strong possibilities of repayment for the trade loan extended.
'We have also seen a greater number of requests from clients to obtain financing based on their trade receivables and, in some instances, based on portfolios with credit insurance.'
Overall, he says, the financial crisis has changed the behaviour of many organisations. 'The way the market has evolved has resulted in companies thinking about how to raise financing.'
And that, he believes, is here to stay, even after the economy eventually recovers and financial markets return to normal.
'What we've seen in other crises is that once companies have started to focus on their working capital, they will continue to do so. The practice of squeezing the most from their capital will still be there.'
> first published in The Business Times
