Cashflow is critical in a virus battered economy

By Alan Max - April 6, 2020

Covid-19 is wreaking havoc in our lives, and for business the agony won’t be short-lived.

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The Prime Minister has outlined three key goals of the government’s response: to protect health, secure jobs and livelihoods and set Australia up to bounce back stronger when this crisis is over.

However, there is a fundamental trade-off between protecting public health by implementing social distancing and isolation measures, and “torching” the economy as an inevitable consequence of tumbling demand. An impossible balance must be struck.

As business revenues plummet, cashflow has become even more critical. Companies must control their own destiny and be on the front foot by immediately comprehending near-term cashflows under alternative scenarios to understand how their business may be impacted by the Covid-19 economic shock. 

This is best achieved by preparing a comprehensive and tailored cashflow forecasting model. This resource will allow business owners and managers to have meaningful discussions with stakeholders, whether they be directors, shareholders, lenders, creditors or staff.

Avoid the tempting shortcut of preparing a static, single-scenario profit and loss budget. This approach misses the mark in many ways. In an uncertain environment it is crucial for stakeholders to seek a scenario-based integrated ‘three-way’ financial model of profit and loss, balance sheet and cashflows to understand the complex matrix of financial impacts on the business.

Management must contemplate multiple “what if” scenarios, including the most extreme cases. What if demand does not normalise in six months? What if the revenue model is modified? What if the cost structure is changed?

Scenario analysis should highlight the focus areas for the business and identify the appropriate steps to take. 

It’s important to note that profit and loss typically differs to cashflow, sometimes materially.

Avenues to manage cashflow may include flexing or standing down parts of the workforce, reducing or shutting down capacity, managing inventory levels, or deferring capital expenditure. Some businesses will also be accelerating the collection of receivables including debt factoring, negotiating payment terms with suppliers, and conducting sales and leasebacks of assets. 

Conducting a balance sheet analysis is also critical to understand the impact of assumptions and scenarios on working capital requirements, debt load and covenants. 

Depending on what the cashflow modelling reveals, companies will want to target the big impact measures to manage cashflows. While businesses have access to the extra government assistance announced in recent days, companies must remain cognisant of the timing of these measures, and how they align with their cash needs, and any requirements for more debt or equity.

First movers will be best placed to negotiate debt facilities, pre-empt debt covenant discussions or seek equity capital.

An integrated financial model is an essential tool to master cashflow requirements and evaluate which levers to pull, when to pull them and under what scenarios.

The time to act is now.

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