Products or services might be flying out your export door but if cash isn’t flowing in, the business will suffer.
Cameron Cooper investigates solutions to keep cash flowing in your business, and avoid losing the house.
A lack of cash flow is a perennial concern for exporters. Even the best ideas will flounder in the absence of sufficient funding and robust trade finance strategies. In the process, a business—and in many cases homes used as security for loans—can be put at risk.
Cash flow is king, according to Greg Charlwood, managing director of Bibby Financial Services, a provider of non-bank finance to the small to medium business market. He warns that slower paying debtors and a static property market are putting even greater pressures on the cash flow management of many Australian exporters. And the risks associated with using a house as security for a loan add to the stress of business. “I don’t think too many businessmen or women like to go home and tell the wife or husband that they have to hock the house for the business,” Charlwood says.
A practical alternative for some companies, particularly those with low fixed asset bases, is to use debtor-financing strategies such as invoice discounting or factoring. Invoice discounting typically allows a business to receive up to 80 percent of the value of its unpaid invoices within 24 hours, even if customer payments are scheduled for 60 days. The business sells invoices to the financier, and the balance is paid when the invoice is finalised, with the financier taking a percentage as a commission fee. Factoring builds in an additional service whereby the financial institution chases debtors for payment. The benefits are clear: a business has working capital to expand the business, and the messy task of chasing payments is handed over to a specialist.
Debtor financing is often seen as an expensive option depending on the cut the financier takes. All the same, it is popular in sectors such as winemaking and mining, where large outgoings are often incurred before revenues come in.
Charlwood argues debtor financing is competitive with comparable interest rates on bank overdrafts and, with the debt-collection service built in, “I don’t believe it is an expensive form of finance”.
Factoring also frees up purse strings that may otherwise be tied up with bank documentation, allowing exporters to compete on similar terms to home-based suppliers in international markets.
“So, effectively we allow our exporter to deal with the importer on a level playing field with the local suppliers.”
But if you need funding to make stock purchases, inventory financing might be worth a look. A new option for the Australian market but in operation overseas for many years, this method allows you to finance the purchase of new stock and, unlike factoring, allows you to collect full payments from customers as normal.
Trade Financing
A bank remains the first port of call for many exporters seeking trade finance. Typical bank services include:
• pre-shipment trade finance to bring goods to shipment stage pending payments from a buyer;
• trade finance in Australian dollars and major overseas currencies, and facilities to pay overseas suppliers;
• documentary collection of proceeds throughout the world;
• post-shipment finance, usually for up to 180 days, in Australian dollars or foreign currencies.
There is scope for more bank support of exporters, with banking researcher East & Partners reporting in late 2004 that a mere 15.6 percent of SMEs with turnover of $5 million to $20 million were using bank trade-finance offerings.
Andrew Currie, national manager of trade finance at St George Bank, says it is important to find a financial adviser who understands your business. The bank will ensure shipping documents are prepared safely, construct packages for specific financing needs, and provide solutions to mitigate risk.
As a starting point, Currie urges exporters to first consider alternative forms of funding and maximise existing resources (for example, cutting excess inventory) and managing in- and out-flows of capital. “They should look at what terms they can negotiate with their suppliers and their buyers to close that funding gap as much as they can to reduce reliance on things like bank funding,” he says.
Exporters who are chasing pre-shipment finance face a challenge similar to businesses in domestic manufacturing, according to Currie. The most appropriate pre-shipment finance facilities, he argues, are those that are carefully aligned to the export contract so they can “self-liquidate from the proceeds of the export contract”, to ensure exporters get the maximum benefits from natural hedges on foreign exchange rates.
As Currie explains, “The really good export structures will integrate the pre-shipment and post-shipment finance components so that there is a natural flow.”
Debt Financing
On the debt financing side, the options are many and varied: bank overdrafts and loans, commercial bills, factoring and discounting, advances from suppliers, credit card advances and home equity and finance company loans. While interest charges can stack up, the business retains control of its own agenda.
With equity financing— whereby the business generates its own funds—the options are more limited: business ‘angel’ investors and listing on the share market, among others. Seeking private investors to inject cash into the company may be especially appropriate for later stage expansion capital, but this option requires the owner to sell a share of the business to an outsider, who can in turn have a say in how it is run.
Exporters should also be aware that business angels are a demanding lot and typically want well-managed SMEs with millions of dollars of revenue and credible customers in Australia and offshore. They prefer a business structure that can be scaled and replicated in other markets. They seek products with the protection of patents and trademarks, and they want a company with growth potential.
Quite often businesses will rely on using their homes as security for trade financing. Carl Favaloro, national manager of international trade, east coast business development, at BankWest, cautions that banks will usually want property as security.
“When we go into a relationship with an exporter it’s a joint business venture,” he says. “The bank is putting something on the line in the sense of the financing. The person who owns and operates that business should be putting something on the line as well.”
Favaloro adds there are financing mechanisms to reduce risk, including documentary letters of credit. “We can look at whether we can negotiate or discount that letter of credit, whether the exporter requires that letter of credit to be confirmed. In other words, we as a bank can look at taking bank and country risk.”
Most export deals are settled with a letter of credit (LOC)—a document a bank issues on behalf of an importer. With an LOC, the bank agrees to pay the exporter if the latter meets certain contractual conditions. The drawback is that LOCs incur bank charges that can add up depending on the transaction, and financial institutions may steer clear of issuing LOCs for countries in which the prospect of receiving full payment is uncertain.
Favaloro remains confident that banks still offer the cheapest form of financing. Other op
tions, he warns, may not have the advantage of a multi-option facility with benefits such as an overdraft to draw down working capital. He advocates a clear working relationship between the bank and an exporter, with both parties being up-front about their needs: “It’s a two-way street.”
Open Account System
An alternative to traditional LOC facilities is the so-called ‘open account’ system between exporters and importers who enter into a sale agreement with no formal debt contract. Debtor quality and payment history are taken into account. Be aware, though, of the risks of such an arrangement. The absence of the security of a bank guaranteeing payment comes with obvious dangers.
Harry Bronn, chief manager of treasury sales at St George Bank, agrees that open account terms come with inherent perils. An exporter, he says, must factor in critical questions. How cash-rich is the buyer? How safe is the finance collection process? What legal issues could affect the deal?
Bronn says the open account option may suit buyers and sellers with a long and trusted relationship, “but there’s still a very strong tendency to use guaranteed products that underwrite the payment”. And he reminds exporters—smaller SMEs in particular—that one failed deal or non-payment can send a business to the wall.
“I don’t think we should get carried away thinking everyone is following the open account path. It’s only once you have a very good relationship and a reasonable period of doing business that you may move to that option.”
There are other government-backed financing tools. The Export Finance and Insurance Corporation (EFIC) is in the pilot stage of a development with Westpac to introduce a new working capital guarantee product called EFIC Headway.
To be rolled out within months, it is a guarantee from EFIC to a bank to secure additional bank funding for eligible small and medium-sized businesses. SME director at EFIC, Sunil Aranha says the guarantee covers a bank for the amount of funding that is in excess of the bank’s willingness to lend against the security available from its borrower.
“It’s a commercially priced product that supports general export funding for business growth rather than a specific export transaction or contract,” says Aranha. “The aim is for an exporter to be able to access additional funds from their bank with minimum fuss and no additional security.”
Another popular financing option is a government subsidy. The Export Market Development Grants scheme is the federal government’s main financial program for exporters and provides up to a 50 percent rebate on certain business and marketing expenditure to promote exports (excluding the first $15,000 spent).The EMDG grants budget is limited, and the maximum grant payable to businesses has been cut to $150,000. Most get far less.
Charlwood urges exporters to shop around for trade finance options. He believes stalling property prices, and a resulting squeeze on home equity that can be used to finance a business, will force more exporters to consider options such as invoice discounting and factoring, and inventory finance.
He concludes: “What do the growth opportunities of a business have to do with the equity that someone has got in a house, whereas with factoring the facility constantly grows as the sales levels increase.”
Stalling property prices, and a resulting squeeze on home equity that can be used to finance a business, will force more exporters to consider options such as invoice discounting and factoring.
Debtor Finance Case Study
As customers began snapping up Robins Foods’ indigenous chutneys, dressings and sauces, company founders Juleigh and Ian Robins knew they had a winning product. They also had a problem: banks baulked at financing the domestic and international growth of such a novel product.
Robins Foods has been selling a range of indigenous Australian food products to domestic and international markets since 1998. Outback Spirit, the company’s main brand, retails in Coles, Woolworths and the British supermarket chain Sainsbury’s.
In 2003-04, the company grew 40 percent. “The rate of growth we are experiencing is of course exciting, but at the same time extremely challenging,” says Juleigh, a Victorian finalist in the 2003 Telstra Business Women’s Awards. “When the range took off we were growing faster than our capital base, which can create problems.”
Payment cycles of big chains such as Coles, Woolworths and Sainsbury’s tend to stretch 30-day terms closer to 60 days, causing cash flow problems for smaller, expanding suppliers such as Robins Foods. The Victorian company turned to factoring through Bibby Financial Services, a debtor finance company that provides specialist export services. Factoring is a cash flow solution allowing businesses to unlock the funds tied up in unpaid invoices. Robins Foods sends a copy of its invoices to Bibby, which then converts up to 80 percent of the unpaid invoices for exported goods into cash within 24 hours. As Robins’ customers pay invoices, the remaining 20 percent, less a small service fee, is transferred from Bibby to Robins.
“We are very comfortable with factoring as a cash flow solution,” Juleigh says. “It allows us to grow within our means.”
Indigenous produce is seasonal and must be harvested and stored at the peak of the season, so Robins Foods must purchase large quantities at certain times of the year to ensure it can meet year-round production. Suppliers need to be paid at the time of purchase. “Invoice factoring gives us flexibility and security,” says Juleigh. “One of the best things about that is we’ve been able to establish strong relationships with our suppliers because they know they will be paid.”
