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Keys to financial shielding

There are situations that can lead to a rapid financial deterioration of a company to the point of bankruptcy.

A fairly common problem -it could be said that it is almost endemic in our country- is that the vast majority of SMEs finance long-term projects with short-term lines or credits. This makes them vulnerable, especially when economic crises and liquidity shortages occur. It is enough, for example, that the bank does not renew the line due to a change in risk policy to deal them a hard blow, since they must start paying a debt that was not previously included in the cash flow. The shielding in this type of situation implies, therefore, taking short-term credits and achieving a long-term structure that accompanies the maturity of the business units.

This was the path we recommended to our clients as soon as the first symptoms of the subprime crisis and the current crisis emerged. We warned them that companies should prepare for a lean period. But there were companies that chose not to follow our advice, assuming that we were exaggerating, and they are simply not in the market today. They were unable to bear their financial burden, as their payment chain was abruptly interrupted, the banks lost patience with them and they had to liquidate their assets and personal wealth to pay their commitments.

Another frequent situation is the imbalance due to “overexposure” in terms of collateral given to obtain credit, which, contrary to what might be thought, represents a disadvantageous condition when facing a crisis. Banks are not interested in capturing properties, their business is not real estate; their focus is on cash flow, that is, on the company’s generation capacity.

Therefore, if a company is out of balance in its “credit v/s collateral” ratio and is severely affected in its payment chain, the lending institution will analyze the situation, after a while it will normalize it and then use the collateral at “liquidation value” to settle the debts, which obviously fractures the assets of the entrepreneurs.

There is a misconception that by having all your assets in a financial institution you will receive special treatment, but normally the pressure will be more intense. Because from the perspective of the bank and its risk analysts, in the absence of revenue generation, the logical reaction is to hedge against potential losses to other potential creditors as soon as possible.

Another reason why SMEs usually hit rock bottom is because they “put all their eggs in one basket”. By concentrating their sales in a few customers -sometimes the relationship with one of them represents more than 50% of their revenues- they are exposed to the designs and changes in commercial policies of the main buyer. In our experience we have seen how many companies are really complicated when the most important customer suddenly demands new standards in the manufacture of their products, which necessarily involves investing in new technology. But, when that SME is living on a shoestring, resorting to factoring to pay taxes or getting into debt to pay salaries, it clearly has no room for maneuver to continue operating. It has no shielding, not only financially, but also in terms of administration and commercial management.

It must be remembered at all times that the first basis for credit analysis is to have a strongly supported cash flow. However, it is often the case that “MSMEs” do not work with this concept. They live from day to day (trusting that “on the way the load will be fixed”) using the resources from sales as if they were business profits, when this money is required to pay commitments and have working capital.

The liability structure of a company is what determines a longer or shorter duration of a business. When we talk about “shielding” we refer to a structure of availability of financing lines with appropriate terms, guarantees and conditions to address the challenges of business plan growth and, of course, complex moments. The correct equation

The financing between suppliers, equity and bank credit is the basis for the technical support required for commercial management and the strengthening of companies in the long term.

Globalization forces SMEs to have a more stable and forward-looking financial behavior, as they cannot remain untouched by the ups and downs of the economy. Before a new crisis, it is necessary to pay attention to the symptoms of the lack of shielding. Have an umbrella handy in case it rains.