Global economic uncertainty is running at almost record highs, according to the Economic Policy Uncertainty Index. It is not difficult to see why, amid the Sino-United States trade war, with federal fund rates being cut, tensions running high between Iran and the U.S. in the Gulf, and possible increases to Hong Kong’s dollar prime rates all putting corporates in a tricky situation. They regularly face good and bad news from both local and global markets, for which strategists and economists are not able to provide clear solutions.
Circumstances like these make predicting the direction of stock and property markets across economies rather difficult.
But, by looking at the risks associated with various scenarios, corporates can evaluate possible impacts and avoid or eliminate any negative implications through risk and liquidity management.
Analysing scenarios
A credit approver in a large commercial bank would need to identify any possible risk sectors with corporates and try to quantify them using scenario analysis. Doing so could help corporates identify whether those risk sectors could be tolerated and what approach should be taken.
Corporates should also look beyond credit risk management. Concentration risks in terms of suppliers, buyers, geographical locations (for suppliers, buyers, manufacturing bases and representative offices) should also be considered, and diversification be made. Recent typical examples of concentration risks include ZTE in April 2018 and Huawei in May 2019, with both Chinese companies heavily reliant on suppliers from the U.S.
While country risks should be evaluated for manufacturing bases, suppliers and buyers should also be diversified in order to avoid political and/or country risks. Within the banking sector, certain countries have been classified as prohibited countries, high-risk countries, and potential high-risk countries, with no trade transactions and remittances allowed with those prohibited countries. Corporates dealing with potential high-risk countries could eliminate risks by buying country risk insurance. Another way of protecting investments in potential high-risk countries is to invite the local government to be minority shareholders. For example, natural resources and petroleum company CITIC Resources Holdings Limited used this approach to protect its investments in the Philippines and other countries.
Having worked in a debt recovery team in investment and commercial banks, I have seen corporates face liquidity issues, especially when it involves large purchase orders. Let’s illustrate this with a debt recovery case study. ABC, a manufacturing company, purchases raw materials using cash (without a credit period taken from suppliers) and sells the finished goods (with a credit period given to buyers). This results in a liquidity gap being funded by bank loans. A problem then arises when one of its buyers delays payments for months, and one of the lending bankers withdraws banking facilities. The case is only resolved when existing and new shareholders of ABC inject cash, and if suppliers negotiate the credit period. Therefore, corporates have to review cash conversion cycles within their trade cycle and diversify the utilization of banking facilities within a panel of banks.
The workshops
I have conducted several e-Series on corporate finance for the Hong Kong Institute of CPAs, which can be found on the website, such as “Understanding Banking Products for Accountants,” “Fundamentals of Structured Finance” and “How Banks Evaluate Creditworthiness of Corporate Borrowers.” The e-Series are highly applicable and covers a wide range of useful, practical fields and are conducted in Cantonese. They could assist chief financial officers, finance managers and shareholders in understanding the products and operations of banks. The courses are delivered by professionals in their own respective fields, who offer valuable insight through sharing their experiences with participants. The online nature of the e-Series also offers much more flexibility for busy executives, who are able to take courses whenever they see fit.
While there are a number of factors which make navigating through uncertainties difficult, corporates that perform the necessary risk and liquidity management can tackle changing environments at any time.
Stephen Chan is Executive Director of iFinance (Asia) Limited. He is a senior banker with over 40 years banking experience specializing in marketing, lending and credit approval activities. He worked with various leading international investment and commercial banks in Hong Kong, including but not limited to ING Bank and China Construction Bank (Asia). He is an Individual Member of the Hong Kong Securities and Investment Institute, Associate Member of The London Institute of Banking and Finance – the United Kingdom and an Associate Member and Certified Banker of The Hong Kong Institute of Bankers.
