The Impact of Rising Interest Rates on Working Capital

Commentary

[The full report can be downloaded by premium subscribers at the foot of this article]

No apologies for the second report on working capital and interest rate rises in a short period: we are seeing significant changes in the business environment, and treasurers are being challenged.

This call focused primarily on the higher interest rate environment. One participant was mostly concerned about how to invest excess cash – the others are grappling with rapidly increasing working capital, driven by the need to keep bigger buffers, due to COVID and the Russia/Ukraine war, and the long delays in logistics circuits.

Funding challenges:

• One participant manages treasury for South America, where there have been significant rises in interest rates, and, in some countries, funding shortages, with banks unable to provide cash and prioritising local companies. The challenges have been manageable, and they have not had to resort to drawing down all their lines to make sure they are available. This behaviour, which is akin to the rush on toilet paper in supermarkets, has been an issue in many markets, including more developed ones. However, there has been some, limited, pre-funding around significant events.
• This has led to an increase in the number of banks in the funding panel.
• One participant prefers their subsidiaries to fund themselves locally – but the cost of higher interest rates (for example, 35% in Turkey) is dissuasive, even if, economically, they are significantly below the inflation rate (>80%).
• There is an increased focus on being more efficient in the use of cash within the company, so more pressure on cross-border pooling, accessing trapped cash, intercompany netting, etc.
• Some participants are using the situation to selectively get higher discounts for pre-paying suppliers: this can be an effective way to increase the return on cash
• Generally, the participants are at the point where these challenges cause additional work, but none of them is particularly serious.

Working Capital Management

• Typically, treasurers have to fund working capital, but they do not manage it.
• In all cases, there is a dialogue with the business about how much working capital the business can support, and how it can be reduced.
• Higher interest rates are resulting in increased expense. Depending on the company, this may, or may not, be reflected in the measurements of the business units. 
• The participants all agreed with the business need to hold more inventory, but a dialogue is required to make sure this doesn’t get out of control. One participant works with the business on resisting calls to change payment terms, while another helps arrange pre-funding for suppliers, when needed.

Supply Chain Financing

• There has been increased interest in, and use of, supplier financing programmes.
• The main benefit of vendor financing programmes is to give the supplier access to funding using the credit rating of the customer. Even less well rated companies are finding increased interest in their programmes – some suppliers are anxious to access funding, even at a higher price.
• Treasurers still find it difficult to implement these programmes, as they need to go through Procurement, for whom they are typically not a high priority.
• Some companies are also looking at implementing receivables discounting programmes, where they did not previously.

Accounting, Measurements

• There are frequent conflicts between the better economic outcome, and how it is reflected in accounting and measurement systems.
• The include paying supplier invoices early against a discount (hurts working capital metrics), borrowing locally at a high nominal rate, but one which is lower than inflation (economically beneficial, but increases reported interest expense), and actions which can have negative tax impacts (most business units are measured on a pre tax level).
• One participant uses available cash to self fund their vendor financing programme. Depending on the auditors, this can affect the accounting treatment.
• Again, treasurers have to address these issues through constant communication.

Investing

• One participant has done extensive funding, and now has a large amount of cash to invest.
• The counterparty limit rules have led to an increase in the panel of banks they use.
• They are also looking at longer maturities. There are useful products which give the benefit of longer term interest rates, but which allow drawdown before maturity, if required. In this case, the interest rate received reverts to the shorter term rate.
• The participant is also looking at new instruments to increase returns
• However, the priority remains security: there has been no relaxation of the imperative not to lose money. So not much has changed in terms of instruments yet.

Bottom line: it says a lot when the summary covers two pages, and still leaves out a lot of the flavour of the call – I encourage you to read the detail below. The world we live in has changed – and with it, a major part of how we work. And this is only the beginning……