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Capital Contrarians

Loosen your credit rules a bit, and you may not have to turn down business from a customer who needs more time to pay.
Simon Littlewood, CFO Asia
November 14, 2007

The annual budget ritual is upon us, and it looks as though businesses will be in for a rough time in 2008. The International Monetary Fund recently announced that global growth will slow to 4.8 percent and U.S. growth to a glacial 1.9 percent. True, to judge from conflicting forecasts, the experts might as well be relying on chicken entrails to predict the future, as the Romans once did. But one thing is certain: any day now Asian business leaders can expect a phone call from the global CEO asking them to up their forecasts for 2008 to show more contribution from Asia.

Some companies are already responding with a contrarian solution — spend some working capital to spark new life in the P&L. Thomson Financial is one. "When I look around I see clear evidence that companies are losing growth opportunities by being too inflexible on trading terms," says CFO Kellie Goldstein.

Companies typically have strict rules on the amount of credit they can advance customers. Loosen up a bit, and you may not have to turn down business from a customer who needs more time to pay. "Where your weighted average cost of capital (WACC) exceeds local interest costs, you can displace competitors by offering longer payment terms and fund it from cheap borrowing," says Goldstein.

Some CFOs are finding promissory notes a convenient way to fund a fourmonth payment term. In China, for example, banks will advance cash against these notes at a low interest rate and will discount the notes for as little as 3 percent.

One company in China's Pearl River Delta is exploring another use for working capital. It confronts a market where distributors aren't willing to take a chance on its products, which are new to customers. So it's taking advantage of cheap capital to offer distributors a "sale-or-return" model, taking the risk away from the distributors.

"Bottom line: even with the cost of capital rising — most recently by 0.7 percent in China — there are a number of markets where by any measure local borrowing is much cheaper than the global WACC," says Goldstein. "This can provide real opportunities for the creative CFO to enable some extra growth."