Fears About a Double Dip are Leading Companies to Hoard Cash
On the surface, saving money for a long period of rainy days makes sense. Indeed, companies around the world are doing so in record numbers, sitting on several thousand billion dollars of cash, according to calculations by financial analysts. Balance sheets are as healthy as they have ever been, with the proportion of debt to equity at its lowest in at least 20 years, according to analysts at HSBC.
It appears this trend will continue, as large companies sell corporate bonds in an effort to increase their cash holdings. There is however a problem with that strategy. Companies want to hold cash as a hedge, but that cash is not earning a reasonable return and when it comes to profitable, secure, short-term investment vehicles, there currently aren’t many options.
Official interest rates in the US and UK are at or close to record lows, meaning the returns on cash are close to zero, providing a powerful incentive to use that money. Historically government debt has been seen as a safe haven for investors, but the eurozone sovereign debt crisis has changed all that.
This has led some investors to shun government bonds and load up on corporate debt, with the resulting demand leading to interest rates paid by companies to hit record lows.
Companies looking to maximise their returns on otherwise idle cash would do better by thinking in terms of the value that cash can create. Cash that’s hoarded in traditional, low-return liquidity vehicles is cash that’s losing value. And potentially creating risk.
As the gap between low-quality and high-quality borrowers grows, more suppliers will experience cash flow problems. And many will ultimately fail, creating disruptions in the supply chain that can negatively impact operations. Buyers with cash on hand can head off such problems by investing their stash in their supply chain.
Every company has an interconnected web of buyers and suppliers. Smart companies can use the transactions they make on a daily basis with their suppliers to their advantage.
This is how it works. In return for a discount, you can accelerate payments for approved invoices to key suppliers. You earn an immediate return on your cash. And your trading partners can use that cash to fund their daily business needs and ensure they can meet your ongoing demands.
The process is known as dynamic discounting. And it’s gaining popularity. On the Ariba Network over US$4.5m in discounts have been captured in the past year. Buyers receiving these discounts saw average annual returns of anywhere between 10% and 36% – far greater than the returns available through traditional liquidity investments.
Getting buyers to agree to pay early and sellers to offer a discount might seem like an impossible task, but new technologies actually make it quite simple. Delivered in the cloud, such solutions provide buyers and sellers with all of the tools necessary to fully automate the process of offering, negotiating, and agreeing on early payment terms. Buyers can capture discounts at any point between invoice approval and the net due date, and automatically present offers to lock them in. Suppliers can automatically accept offers or control the acceleration of payment on an ad-hoc basis according to their needs.
During tight times, the tendency for most organisations is to shore up costs and adopt a myopic approach to conducting business. This is not the way to prepare for – for pull through – a market slowdown. As the perception of recession looms large over today’s economy, it is more important than ever for buyers and suppliers to work more closely together, share the economic burden of the times and embrace innovative ways to ensure their mutual health. The supply base offers short-term investments with higher returns that are effectively risk free. Companies bold enough to embrace such a creative approach can successfully navigate today’s rough waters and sail smoothly once the economic storm passes.