18 Mar 2020
Coronavirus update: Navigating business risk in uncertain times
The coronavirus global pandemic has put UK businesses into unchartered waters. For company management, CFOs and financial directors, headline risks include currency fluctuations, supply chain disruption and cashflow tightening, as the world faces widespread business disruption.
As the pandemic sweeps across the globe, there have been steep movements in currency markets. For our clients, the most notable moves have involved GBP. Global markets have also failed to rebound on extraordinary measures introduced by central banks, as investors question the ability of policymakers to deal with this black swan event. Meanwhile, bond yields have been volatile as the market digests fresh stimulus and a darkening economic picture.
The current crisis will have consequences for individual businesses and their respective supply chains. However, while we are entering into a highly uncertain and volatile period, companies can take steps to navigate the challenges and risks ahead.
At Investec, we are here to help empower UK businesses to understand their overall risk management frameworks in this unprecedented period and support effective strategic decision-making.
Government and Bank of England support UK businesses
The gravity of the situation was reflected in the Government’s announcement of unprecedented measures to protect UK businesses. The Chancellor pledged an initial £330 billion of loans and guarantees – equivalent to 15% of GDP – to support UK companies impacted by the pandemic.
This includes liquidity for large firms through a new scheme launched by the Bank of England to help bridge disruption to cash flow. There will be an increase in the amount businesses can borrow through the Coronavirus Business Interruption Loan Scheme from £1.2 million to £5 million. Companies have also been promised a business rates holiday, while new legal powers in the forthcoming Covid Bill enable the Government ‘to do whatever it takes’ to support businesses in the months ahead.
These measures follow the Bank of England’s move to cut the Bank rate by 50bps to 0.25%, taking it back down to the level prevailing for 15 months in the wake of the EU referendum in 2016. The incoming Governor Andrew Bailey has also, subsequently, said he will take prompt action to help insulate the economy from the coronavirus.
The Bank of England’s Monetary Policy Committee also announced a new four-year Term Funding Scheme (TFSME), to run for a year. This is designed to provide businesses with cheap loans, close to the new level of the bank rate. The Bank of England stated it expects to provide in excess of £100bn of funds via the scheme, based on the 2016 exercise. TFSME also includes additional incentives to lend to Small and Medium-Sized Enterprises (SMEs).
This measure and the reduction in capital buffers show the Bank of England recognises the dangers of ‘second round’ effects from COVID-19 having a long-lasting impact on the economy.
We cannot be confident the recovery will be ‘V-shaped’, ‘U-shaped’ or even ‘L-shaped’. But whatever the outcome, there is further scope and commitment for both fiscal and monetary measures, if required, to stave off a second wave of the virus or a prolonged downturn. The message is clear: the government and the BoE are willing to stand behind British businesses.
What our clients are asking - A need for flexibility with your strategy?
At a business operational level, while this period is unsettling, UK companies do not standstill. Businesses can take effective steps to assess risk management and re-evaluate business strategy as the situation evolves. With acute swings in the currency markets, now is a good time to evaluate current hedging strategy and harness the potential of flexible solutions that could be available.
Firms with hedges in place may need to assess whether significant disruptions warrant action. For example, as sterling has fallen substantially and supply chains are significantly disrupted, they must consider whether these hedges are still appropriate. In these unprecedented times, Investec is here to help and we want our clients to know they have options. See below for details on some of the questions we’ve had from clients over recent days which may help with your planning.
Is it possible to delay hedges?
Companies can delay the delivery of hedges if supply chains are severely impacted. This means an element of scenario planning – will importers be able to get their hands on shipments? Will exporters still be shipping?
The good news is there is a range of solutions available. For example, if a toy importer needs a shipment from China, they need to consider whether they have the appropriate hedge in place – particularly on the basis delivery may not take place. This could mean rolling and changing the maturity dates for US dollar contracts – i.e. moving the hedge from, say, April to July, when there is better visibility.
Can I cancel trades?
Given the supply chain disruption, we appreciate some trades will no longer be needed. Investec will try to be as accommodating as possible, so if you do think you need to re-evaluate your strategy, please talk to your dealer to look at what can be done.
Hedge accounting issues?
Companies that currently apply Hedge Accounting to currency hedges may need to speak to their auditors to understand the implications on hedge effectiveness on existing trades, given the large scale disruption.
Trades that you currently have on which no longer match against an invoice for goods may no longer be considered effective hedges and therefore may not qualify for Hedge Accounting. Therefore any adjustments to trades may mean they would have to put the mark-to-market valuations of the hedges through their P&L report and this will impact year-end earnings. Thus, businesses need to speak with their auditors or accountants and evaluate their processes.
Working capital options?
With many, if not all industries, impacted by the crisis, cashflow remains the foremost concern for many businesses. While it is encouraging to see the Chancellor and the Bank of England step up support for British businesses, company management must also assess whether they may need to source additional liquidity in the coming months.
While a working capital injection may not be necessary, it is important to open up dialogue, assess options and ensure flexibility in the face of further strains on cashflow. Businesses should seek consultation with their treasury and banking relationship managers to ensure a more certain future for their businesses.