Financial Management: 3 ways to tackle the coronavirus’s economic risk
Written by Luke O’Neill, the following article appeared in Financial Management on 20 March 2020.
The COVID-19 pandemic is keeping CFOs and CEOs up at night as the leading risk facing the global economy.
A global recession, affecting developed and developing countries, seems inevitable in the first two quarters of 2020, according to Tenpao Lee, Ph.D., a professor of economics at Niagara University in Lewiston, New York.
“It is possible that 2020, in its entirety, will see a severe recession as a new global supply network develops,” Lee said. “In the meantime, some demand for goods and services could disappear permanently, especially in the travel and tourism industries.”
“Just look at what’s happened in the last 90 days,” said Parag Bhagat, CPA, ACMA, CGMA, GE Healthcare’s Global Supply Chain Centre of Excellence finance manager. “The world’s grappling with the outcomes of the coronavirus outbreak.” Logistics processes are being rewired to ensure products still get shipped in and out of countries like China, Bhagat said. “That has dramatic effects on the broader supply chain in terms of cost and revenue.”
Potential business failures
Sequoia Capital, a well-known US venture capital firm in Silicon Valley, labelled coronavirus “the black swan of 2020” in a message to founders and CEOs in its portfolio last week. KPMG issued a similarly stark assessment of COVID-19, predicting a V-shaped impact on US gross domestic product with a marked decline in net exports and business investment in the first quarter and a rebound in the fourth quarter.
Many sectors of Australia’s economy are intrinsically linked to China.
Adrian Warner, chief investment officer at Sydney-based Avenir Capital, a global investment manager, said economic risks in 2020 are now firmly centred on coronavirus and a price war between Saudi Arabia and Russia, after Saudi Arabia abandoned output restraints agreed upon by OPEC.
“There will be bankruptcies as a result of the economic turmoil currently being caused by the spread of the coronavirus. The dramatic decline in the price of crude oil [down more than 40% since mid-February and now lower than it was 20 years ago] is adding to the drama by causing consternation amongst increasingly fragile credit markets,” said Warner.
What you can do
What can senior finance leaders do to manage these headwinds? Here are three basic suggestions that may help your company manage a rocky road ahead:
Conduct scenario planning and stress tests. Deloitte recommends businesses undertake scenario planning to better understand how much cash they will need and for how long. Also, consider running business stress tests for different pandemic scenarios, depending on the impact COVID-19 is having on different markets.
Focus on key customers. Companies should understand their contractual commitments to their customers and the potential cost of not meeting them. Talk to key customers and try to find ways to minimise losses, for example, by exploring alternate supply arrangements, which can help prevent losing them.
Get a jump on cash flow. Sequoia Capital asked founders and CEOs in its portfolio to measure their cash runway. Cash flow has always been king for small and midsize businesses, and now larger players will find themselves in the same situation. Look at how long your company can withstand a poor economic environment and what level of cash reserves can be drawn on in the quarters ahead.
Deloitte recommends businesses talk to financing partners and banks to ensure lines of credit remain available. Reducing variable costs is often a quicker way to reducing cash outflows than focusing on fixed costs. Look for opportunities to reduce contract labour, impose hiring freezes, and restrict discretionary spending to avoid layoffs. Consider postponing capital investments, delaying payments to suppliers and contractors, and examining how receivables are being managed.
Also, consider alternate or nontraditional revenue streams to temporarily or permanently replace traditional revenue. That could include switching markets, accelerating the launch of a new product, using existing revenue-generating assets differently, or updating the business model. The pandemic may offer an opportunity to make strategic changes.
For more news and reporting on the coronavirus and how management accountants can handle challenges related to the outbreak, visit FM’s coronavirus resources page.
— Luke O’Neill is a freelance writer based in Australia. To comment on this article or to suggest an idea for another article, contact Sabine Vollmer, an FM magazine senior editor, at Sabine.Vollmer@aicpa-cima.com.
Original source: Financial Management