Managing interest rate exposure

With interest rates at an uncomfortable level, Carmen Chivers reports there are ways to ease the pain.

With interest rates at an uncomfortable level, Carmen Chivers reports there are ways to ease the pain.

MOST manufacturers are now facing the question of how to manage their interest rate exposure. Many business owners and investors make risk decisions based simply on their risk-management track record or pure ‘gut-feel’.

However, Paul Quinn, national manager for manufacturing with St.George Bank explains that although instinct can be important to business, a strategic approach to interest rate risk management proves far more effective.

“Making instinctive decisions in rising markets, or simply sticking to decisions that worked in the past can be disastrous to successful hedging of interest rate risk,” said Quinn.

Yet understanding the critical nuances of the interest rate market is often outside the core expertise of many business people.

Initially, interest rate risk may seem like a simple concept — the potential for financial loss arising from changes in interest rates. Solving interest rate risk issues can also look deceptively simple.

However, if ignored or downplayed, the interest rate market can have a severe impact on cash flow forecasts, profitability and a businesses’ ability to service debt, cover operating costs and respond to margin and industry pressures.


The first step in establishing an interest rate risk management strategy is understanding interest rate risks and how they can impact your business.

Next, determine the level of risk that you are comfortable with.

This can be difficult to ascertain and will often be considered in light of the financial loss you are willing to accept from interest rate movements.

While risk appetite may increase as a business grows, adverse movements in interest rates in the short term could impact your ability to expand and develop into the future.

Hence, it’s important to consider hedging strategies such as fixed and floating Bank Bill Facilities to combat interest rate risk in both the short and long term.

Fixed or Floating?

A Floating Rate Bill Facility allows total flexibility on cash flows but could leave your business exposed to interest rate movements.

On the other hand, a Fixed Rate Bill facility provides the borrower with certainty of cash flows, but allows no flexibility to change their original repayment structure without the potential of break costs.

When a borrower’s cash inflows are known in advance, like rent, the notion of fixing a rate for the term of the facility becomes more attractive.

Equally, when known outflows are desired for budgeting purposes, a Fixed Rate Bill facility is usually the answer. However, as complexities grow, businesses are faced with the increasing challenge of matching incoming and outgoing cash flows.

In today’s manufacturing and wholesaling environment, having the flexibility to alter outgoing cash flows is often required, without exposing the business to unacceptable risk.

Customised Bill Solution

St.George has developed an uncomplicated approach to interest rate risk management with its Customised Bill Solution. It offers customers the ability to utilise a range of products under one simple package, which is tailored to suit a business’ needs.

The products that can be used include:

• Fixed Rate Bill facility – where the interest rate is fixed for an agreed term.

• Floating Rate Bill facility – where the interest rate is reset on each roll date with the flexibility of drawdown amounts.

• Capped Rate Bill facility – which provides a maximum upper level interest rate for the duration of the agreed term of protection.

• Collared Rate Bill facility – where the interest rate remains within a set band.

For example, say a business is looking to borrow $5m for a five-year term, with the intention to use $2m to fund the purchase of a property (core debt with the property to remain a long-term hold), and $3m to fund working capital — this amount requires the flexibility to be partially or fully repaid or withdrawn, as circumstances require.

A suitable solution might be:

• a $2m Fixed Rate Bill facility for five years, interest only,

• a $2m Capped Rate Bill facility that rolls at the floating rate with flexible cash flows, but also has a known worst-case rate: and

• $1m on a Floating Rate Bill facility.

This solution provides comfort for the business by delivering certainty on 80% of the debt.

This certainty over interest rates is delivered through a combination of the $2m at a fixed rate (Fixed Rate Bill facility) and a further $2m having a known worst-case rate (Capped Rate Bill facility).

Importantly, the structure also provides flexibility on 60% of the debt whereby the business is able to alter the amount of debt drawn from roll to roll. This allows for debt to be repaid or redrawn on rollover in accordance with credit limits and terms and conditions.

So if interest rates increase, the business has only 20% exposure to rising rates through the floating portion. If interest rates fall, the business has the ability to benefit from lower rates on up to 60% of the facility via the floating and capped bill portions.

“The key to remember is that risk, like rates, is not static. Strategies must be flexible, and risk management ensures that your exposure and strategy are monitored and revised as needed,” said Quinn.