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Follow UsHarish Kumar Shetty
The Indian economy is witnessing a tremendous growth and it is expected to continue at this pace in the foreseeable future. This highly dynamic situation offers several growth opportunities and at the same time throws up many challenges as well.
One of the biggest challenges for any business is to ensure profitable growth in a sustained manner. In the technology business this can be achieved by constantly fine-tuning the business by providing more value-added products and services to compensate for the reducing margins in the box sales.
Apart from looking at an intelligent revenue model, it is also critical to keep the costs under control. Salaries, rent, traveling and many other overhead costs have been witnessing a steep increase over the years. Interest on investments or repayments and internal communication are some expenditure that have a scope for reduction.
Since interest rates have been falling over the years, it is important to factor your borrowings in such a way so as to minimize the interest burden. The interest cost on working capital can be addressed in two ways:
- By keeping the working capital limit under control
- By reducing the cost of funding for working capital
Keeping working capital under control
There is a constant pressure to ensure adequate stock of goods so as to encash on business opportunities and at the same time to minimize stock carrying costs. There is opportunity to get more business by offering extended payment terms at the cost of increasing book debts.
This requires a careful balancing act after understanding the cost of borrowing and its resultant strain on liquidity. Faster realization of lower margins is probably a better option than 'better margins' with longer credit period.
If extended credit terms can be negotiated from the vendors, it helps in reducing working capital exposure. Thus keeping overall working capital limits within control is an important measure to control interest cost.
Reducing cost of funding
Working capital finance consists of:
- Fund-based limits, such as cash credit, term loans etc
- Non-fund-based limits such as bank guarantee (BG), letter of credit (LC) etc.
Banks are now keen on funding SMEs at attractive interest rates if the financial health of the organization is good. It is necessary to take expert advice from auditors or other consultants to ensure that your balance sheet presents a healthy picture and gets a good rating in the credit evaluation criteria from the banks. It is important to meet the norms prescribed for various ratio analyses such as debt-equity ratio, current ratio, debit service coverage ratio etc.
Apart from presenting a healthy balance sheet, it is the ability to make a healthy negotiation with the bankers that can make a huge difference in the overall burden of interest and bank charges. The rate of interest varies substantially from bank to bank.
Similarly the charges for LC or bank guarantee can vary vastly among different banks. If your present bank offers you bank guarantee charges at three to 3.5 percent, with 25 percent cash margin for bid security or performance bank guarantee, there are many new generation banks, which offer one to 1.5 percent, with 10 percent cash margin. This can make a huge difference in your total bank charges, especially if you are looking for a three-year performance bank guarantee for your customer.
Similarly there is good scope for negotiating interest charges on CC limits and term loans. Fund transfer charges, discounting charges and other service charges are all important to be taken into consideration while evaluating the total interest cost.
On the negotiating table
A point to be noted is that as people in the IT business, we need to negotiate with bankers in the same way as our customers negotiate with us. Even our regular customers tell us about the competitive quotes they have got while negotiating with us.
Similarly despite long standing-loyalty, relationship etc with existing bankers, it will be useful if we initiate discussions with other banks so that we are better equipped to negotiate with the present bank or to shift operations.
Thus in the overall scheme of things, it is up to us to ensure that outside investors are convinced that they are dealing with the right people.
Incidentally, seeking expert advice helps get most of the issues resolved in a short time. If the SP has a finance background, it would be an added advantage since that would help him understands the nuances of the funding procedures even better.
With so many options on hand and also willing bankers, a smart businessman can easily keep the interest intact while borrowing money from outside investors. It is time then for businessmen, especially the SMEs to take note of best practices and apply them in order that their business gets requisite and timely funding.