As trading opens up, there’s optimism across businesses in the UK and Ireland—and a heightened risk of a cash flow crisis.
As Jason Robinson, head of special risks for Euler Hermes UK & Ireland, commented on a recent webinar:
“The key question with this recovery will be: will companies run out of cash?”
It’s a perennial problem. Often known as overtrading, healthy businesses can fail because they run out of cash, perhaps because they take on a major new customer who pays slowly. Growth always eats capital.
Cash flow problems
However, the risk is particularly high in the coming months:
- Your biggest customers may be in trouble They may now be reliant on furlough schemes or other government support that is being unwound in stages. (See this guide for a timetable.) Sure, they paid on time for years or even decades. But now they may have a cash flow crisis—and you won’t know until payments dry up. Robinson asks: “If you are funding your customers’ growth, how well do you know your customers? If they run out of cash, will you run out of cash?”
- Your own cash profile may have changed This is likely if you’ve changed your business model, perhaps to increase online sales or shifting to electronic payments. Metrics such as margins and bad debts ratio will be changed. Also affected will be . The combined effects may not become clear until volumes rise.
- Your costs may be higher It’s a long list. Supply problems are raising the price of raw materials ranging from wood to computer chips. The business rates holiday in England for retail, hospitality and leisure ends mid-year. Landlords expect full payment for the June quarter and Jason Robinson noted £6 billion of unpaid commercial rents that landlords want repaying in instalments.
Jason Robinson’s verdict: “The key to sustainable growth will be cash, cash, and cash.”
There is also the psychological element that adds to the risk. Business owners that have made it through the pandemic, especially in hard-hit sectors such as hospitality and retail, may feel the joy of someone who has reached the summit of Everest and is ready to go back down. They should be wary: on the world’s highest mountain, statistics show more people die on the descent than the ascent.
In the hardest-hit sectors, the lifting of social controls means almost a fresh start; business will have to behave almost like startups, with the associated financial risks.
Under normal circumstances, business people with a bulging order book but a cash flow problem could turn to their banks. However, Federation of Small Businesses survey data showed that banks were refusing business credit in the first quarter of 2021 at double the rate of the previous three months.
History provides an additional lesson: although the financial crisis first hit in 2007, business failures were highest when conditions stabilised in 2009.
That’s not to sound too gloomy. If society normalises, there is a huge opportunity for many businesses. The pandemic has created winners and losers, economically, and the winners in the UK have been stashing £20 billion into their savings account each month, HSBC calculates. If a fraction of that turns into consumer spending, then the opportunity is very real.
In Ireland, Retail Ireland predicts that sales in the first month of normal retail operations will be 40% higher than normal.
Cash flow forecast
To seize this opportunity without risk of overtrading, cash flow forecasting is essential. Two time horizons are needed:
- A detailed, 12-week cash flow forecast should cover the short-term period of opening up. Ask: at the end of this forecast, do I have cash on hand in case of further lockdowns or major customer defaults? (Here’s a guide on https://www.eulerhermes.co.uk/resources/cash-flow-management/how-to-make-a-cash-flow-forecast.html)
- A less detailed, longer-term cash flow forecast can provide strategic direction. To fully seize the (hoped-for) upswing, do you need to think about raising capital?
Sorina Eremia, head of underwriting at Euler Hermes UK & Ireland, commented:
A cash flow forecast is vital, but amid such uncertainty it cannot be a guarantee that cash will be sufficient. It is difficult, for instance, to predict whether long-standing customers may suddenly default on payment due to Covid-related problems that are invisible to you.
There are techniques to liberate cash from working capital, for instance negotiating better payment terms with customers.
One of the most powerful tools, though, is trade credit insurance. This can help safeguard against credit risk, allowing your business to seize the opportunity of the upswing. It provides a three-tiered service:
- Insurance that safeguards your business in the event of customer default or insolvency;
- Collection of unpaid debts allowing your team to focus on growing the business; and
- Credit checks and monitoring of customers which is invaluable amid such uncertainty.
This final tier may be the most important, and underlines how trade credit insurance is different from other forms of insurance bought by a business. With conventional insurance policies, the only dialogue with the insurer is around claims. In contrast, with trade credit insurance the insurer is an active partner helping manage risk at source, starting with a check of the credit profile of existing customers and then analysing each new customer as they come onboard.
This guidance is possible because trade insurers sit at the centre of a vast information network, seeing payment stress unfold daily not just at the level of sectors or countries but also individual companies. This know-how is fed back to clients in the shape of credit limits that can help guide decisions that will loom as the upswing takes hold, such as whether to accept a landmark order, grow into a new section of the market, or attack a new export location.