Birds of a ‘feather’ are more financeable together
Having a well-defined strategy for financing your ecosystem can make the difference between winning and losing in these tough times of Covid19.
Aljo Joseph May 12, 2021
Co-founder & Chief Business Officer, Finovate Capital
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The second wave of Covid19 in India has again ushered in the survival mode for SMEs across the country. Given the volatile nature of our predicament, it is important that your business outlook for this period has to continue being ‘Cautiously Optimistic’. While that may seem counter-intuitive, you will see the logic behind the same as you read on.
January and February of 2021 were among the most optimistic months for the non-covid impacted sectors in India. We had collectively reached a period of relative stability in the ‘new normal’ and were priming ourselves up from growth till the ‘tsunami’ of new Covid19 cases came our way. Our experiences over the last year have shown us that demand will always re-bound in a young and upwardly mobile country like India. As a business owner, the most important thing is to be in a position of strength to ‘Recapture the GROWTH’ a few quarters down the line.
Given the pandemic, much of your competition could struggle for Working Capital in the absence of dedicated financing lines; this will result in them utilising a significant portion of their accumulated corpus for ‘survival’ instead of ‘growth’. As a fundamental rule of business, your corpus must go into ‘building capacity for future growth while using ‘financier/external’ funds for operations. Given that this is not possible for your competition, they will be constrained by capital to capture future growth. This sets up the perfect storm for financially prudent and strategically adept organisations to capture growth at their expense by purchasing assets at ‘lower’ prices to build future capacity.
Covid19 has taught us that businesses built-in financially prudent ways have unlocked the ‘extra capital’ needed on time. Having a significant corpus intact would ensure that those firms are best placed to capture the growth that will soon be available in India. However, to do so requires a strategic outlook towards managing working capital (as covered above) and developing meaningful relationships in your ecosystem (with both suppliers and buyers). From the financier’s perspective, short-tenured relationships with intermittent transactions typically tend to be difficult to finance.
Summarised here are a few insights into how well-managed firms can unlock this excess liquidity to drive competitive advantage.
Utilisation linked financing: They have provisioned working capital lines for specific purposes, either for themselves or to enable their ecosystem (suppliers and buyers) to support them. By not going in for typical term loan linked EMI structures, they can pay for external capital only to the extent of its actual utilisation in the business.
Strong ecosystem of buyers and sellers: Long tenured association with quality buyers and/or sellers can unlock superior terms for your ecosystem. This will give you the required payment extensions or faster collections to bridge your working capital gap. The icing on the cake is that most of these loans are ‘unsecured’ and do not involve pledging significant hard assets.
Less leveraged balance sheets: Making your ecosystem (buyers and suppliers) more financeable reduces the direct debit on your balance sheet. This makes it possible for you to borrow at low costs from your bankers in times of urgency. It also makes sure that the discretionary limits available with your client servicing team at the financial institution is adequate and you are not subjected to the ‘death by committee’ approvals that are beyond anyone’s control.
Leveraging allocated Buyer Limits: Enabling limits for your buyers ensures that you have daily visibility on the credit availability at their end. This allows you to push sales to unlock precious capital through much-needed sales.
Being ‘Lien’ Free: Having Lien-Free assets allows you to unlock precious capital in emergencies. Many business owners have realised the ‘real cost’ of lower-priced ‘secured’ CC/OD lines. A conscious strategy towards reducing the assets pledged for secured lines by moving debt to your ecosystem can go a long way to support you in turbulent times.
Optimal Working Capital cycles: Using financing lines to Pay Later or Collect Faster allows you to ensure that the business is never digging into corpus to Pay Suppliers.
Companies that are keen on unlocking this ‘extra’ liquidity (as working capital) need to put in checks and balances while enrolling ecosystem partners to ensure that they do not subsequently become a financial liability on your books. For instance, prudent checks around the reputation of promoters (both buyers and suppliers) and basic fraud checks can tell you whether they can be financeable in the future.
Additionally, as a discipline, your ecosystem needs to separate promoter and company financials (for your ecosystem) and make as much of their income legally recognisable as possible. In tough times like Covid19, they will be fundable only to the extent of their legal income by financiers. By running formal financing programs and acting as ‘Anchors’, the larger companies can play a more meaningful role in mainstreaming income for their ecosystem.
Another critical point is to provide financiers confidence in the underlying data that you as a company/anchor provide as supporting information for financing. This should come from a formal ERP with meaningful controls than from a ‘dubious’ reputation of having weaker controls. The more digitised your processes, the easier it becomes to secure working capital compared to ‘paper-driven. To summarise, the more your data resides outside formal systems, the higher the due diligence, TAT, lower the limits assigned and more cumbersome the process to get your ecosystem funded.
The other more indirect impact is the ability to command preferential pricing, better terms and loyalty of your ecosystem (both suppliers and buyers) by simply ensuring that they have access to predictable, reliable and convenient capital. SMEs who usually would not get funded basis their own balance sheets can unlock precious liquidity thanks to their association with you. This can make the difference on whether your suppliers are overcharging you in times of scarcity or whether your buyer base helps drive growth to unlock better valuation.
To summarise, while annual budgeting and periodic monitoring against defined targets has happened diligently at most firms, the same prudence has not been reflected in Working Capital Management. Having a well-defined strategy for financing your ecosystem can make the difference between winning and losing in these tough times of Covid19. The business practices you put in place determines the extent of fundability of your ecosystem and hence the available corpus for your future growth opportunities. Given the SMEs are among the largest employers in India, they must find the money for operations for all of us to grow collectively. Cashflow based lending in developed European countries is as high as 12% of GDP, while we are currently at approx. 1% of our GDP. India is now looking towards you as a business owner to make us truly ‘Atmanirbhar’ by helping unlock this precious cash flow for our SMEs to grow our economy sustainably.