Financing to staying competitive

Money makes the world go round, but with the present strong dollar and rising interest rates, manufacturers are finding it harder to make. Silvan Porcaro* reports.

THE Australia of today is characterised by an increasingly diversified economic base. No longer are we dependent exclusively on primary industries such as agriculture and resources to create our wealth, although these still contribute significantly.

Indeed Australia punches well above its weight in terms of economic performance.

However, the growth and stability of our economy over the past decade has attracted global capital flows or ‘hot money’, which is being used to buy up Australian currency and assets.

This is in part contributing to upward pressure on both interest rates and the Australian dollar.

So what does this mean for local manufacturers? How can they face the challenges head on?

A large number of manufacturing businesses in Australia look to export markets to sell their product.

This leaves them susceptible to the effects of a strong $A and rising interest rates.

It is important to note at this point that the high $A isn’t a negative for all manufacturers.

Certainly, for exporting manufacturers it is making it harder to compete in overseas markets, however on the other hand, for those manufacturers who are heavily reliant on imported raw materials in their manufacturing process, they may actually be benefiting from a reduction in their input costs.

The heavy reliance on imported componentry and raw materials is benefiting some manufacturers by increasing their competitiveness on both the domestic and, to a lesser extent, international markets.

Options

One option frequently suggested as a way to combat the effects of a high $A is by engaging in some form of currency hedging.

This can work well for some companies and in some situations — but is not the long-term solution for everyone.

Many would argue that hedging is a short-term solution (generally facilities have a life of no more than six months) and in the current environment where the dollar has been consistently high for some time, even those companies who did hedge would now be in a similar situation to those who didn’t.

That said, all organisations should have a strategy for hedging.

This should be a documented policy outlining when, why and how they will hedge and which hedging option (e.g. forward contracts or currency options) they will choose depending on the prevailing economic circumstances.

For businesses that are frequently operating in foreign currencies, hedging should form part of the long-term strategy considerations, with ongoing management.

The strategy should allow for opportunistic tactical decisions to be taken as appropriate to individual situations.

Export businesses can also increase their competitiveness by being selective with the industries in which they work and honing in on niche markets.

The only businesses these days that can afford to export are those that can ship significant volumes.

Bulky goods — for example a ready-made desk — are prohibitively expensive to ship because they only take up a portion of a container with the rest being air.

The entire space needs to be paid for and unless manufacturers can fill that spare space, it’s simply not viable to export goods overseas. Importers also face the same problem and for both parties, it’s about becoming increasingly niche in what they do in order to thrive and survive.

Financing

Beyond hedging and selectively exporting, the other aspect to consider is financing.

As a manufacturer in uncertain times, it is particularly important to have the right type of working capital financing in place to ensure you can both ride out the tough conditions without breaching borrowing covenants, and finance strong growth as it presents.

Whether you’re looking at raw material or finished goods inventory, or accounts receivable, exchange rates will affect the levels of available working capital as activity moves up and down.

Without a flexible, adaptable arrangement, organisations can find themselves in a situation where they are over leveraged or carrying large amounts of (amortising) term debt.

For those manufacturers with a fixed line of credit, they may find they are struggling to service their debt when activity decreases, resulting in strains on cash flow.

One of the most effective ways of financing working capital is via a revolving line of credit secured by the working capital assets (stock and debtors).

This ensures that the financing of working capital can move in line with activity — that is, the investment in stock and debtors.

Despite the tough conditions, there are still ways manufacturers can improve their competitiveness.

By moving into specialist areas and putting in place hedging policies and flexible finance structures, Australian manufacturers will put themselves in a strong position to overcome the current challenges.

* Silvano Porcaro is Senior Executive Director for GE Commercial Finances Corporate Lending team in Australia/NZ.