Capital efficiency vs cash cushions

For decades, business schools did a brisk trade promoting courses on capital efficiency vs cash cushions. This meant striking the right balance between equity and debt at the lowest possible cost of overall capital.

The lockdown in early 2020 suddenly showed capital efficiency was no longer important. The accepted view by business was that going forward, liquidity is king. Raw survival, even if this comes at a cost, for many was the all-consuming focus.

Those without access to cash will be the first to stumble

Since lockdown virtual boardrooms around the country have spoken about little else. Whether to borrow now and face the day of reckoning later, or tough it out for another few weeks. Continue to focus on capital efficiency vs cash cushions? There was no easy answer.

Several JSE listed issuers filed for business rescue – Comair, Edcon, Phumelela Gaming to name a few.

Corporate cash piles

The 350-odd companies on the JSE showed a combined cash pile of more than R1 trillion at the end of 2019, a near 70% increase on the figure in 2015.This grew to R1.4 trillion by 2017, not counting a further R1.6 trillion in reserves from JSE-based multinationals with little actual presence in SA.

Reasons given for the hoarding of cash were shrinking domestic demand, the Zuma legacy and a lack of suitable investment opportunities.

Lockdown put this pile under serious threat.

Companies stretched their balance sheets as far as they could to survive the collapse of the economy, with hopefully enough gas in the tank to catch the expected recovery later in 2020. As we all know this did not happen and 2021 saw the growth splurt.

Debt risk

Many companies reconsidered their capital structure while carefully evaluating their short-term liquidity. Postponing repayment of debt to secure liquidity had its risks. Rolling debt forward increased the total amount to be repaid at a future point in time.

Cleaning up balance sheets

Many also focus on cleaning up operations:

  1. Product lines were simplified and streamlined.
  2. Surplus and marginal assets were sold off – particularly where companies face a debt crunch.
  3. The quest for sustainability drove a prolonged period of deleveraging

SMEs – build reserves

For tens of thousands of small businesses with little in the way of cash reserves, these were the leanest times in living memory. Many closed down never to open again.

Others managed to survive 2020 and having enough cash in the bank. It’s all about raw survival.