By some estimates, the credit crunch has stripped as much as $12 billion out of corporate profits for the 2007-08 financial year. For Australia’s publicly listed companies, the profit reporting season has now come to a grizzly end. But for privately held small and medium sized firms, a profit reporting season of a different kind is only just unfolding.
Public companies are accountable to the capital markets via the reporting requirements of ASIC and the ASX, but private companies are accountable to a different governing body – their bankers.
Private firms are usually required to deliver their finalised accounts to their bankers within 90 to 120 days of June 30 – and this reporting largely takes place September through to October. With freshly-minted financial statements in hand, bankers will assess their client’s facilities, analysing financial statements and reviewing securities along the way.
What will the bankers be looking for in their annual reviews this year, and what will they find?
Debt servicing ratios (such as EBITDA divided by finance commitments) for highly geared firms will be under pressure courtesy of a credit crunch double-whammy. Finance commitments increase when interest rates increase. And EBITDAs suffer when higher interest rates impair revenues – when higher interest rates are used by the central banks to slow demand. This will become more of an issue as the credit crunch spreads throughout the real economy.
Bankers will also be focusing on security ratios, including loan to valuation ratios (“LVRs”).
A public company sources its equity from the market, but a private firm sources its equity from the personal assets of its owners. Equity in these personal assets is often transferred to the business via LVR-dependant loans – predominantly real property mortgage loans, but in recent years, also margin loans against share portfolios.
Real estate prices have softened. And in a sellers’ market, the marketers of loans are not compelled by competitive pressure to stretch LVRs in the way that they were when it was a loan “buyers market”.
How will banks manage those clients reporting signs of distress?
CPA Australia recently released a survey on small business finance. On the theme of “access to finance in the event the business faces financial difficulty”, 71 per cent of those surveyed believed their financial institution would be “accommodating and flexible in such circumstances”. Optimistic, to be sure!
In the same survey, 36 per cent of small businesses who increased their borrowings last year did so primarily for business survival. It remains to be seen whether the banks will continue to lend for that purpose and at that level this year.
This post first appeared in the Business Spectator.
The Cash Flow Ninjas
