Death by ‘Working Capital’: #SME’s Face A Global Crunch Drowned In #Liquidity

We will see, again, the bailout of the reckless and the burden to the prudent. 

From Hedgeye:

Emergency: Small Businesses Face A Global Crunch Drowned In Liquidity

03/17/20 09:56 AM EDT

The guest commentary below was written by Daniel Lacalle.

Many countries have decided to lock down entire cities and shutdown airspace to contain the spread of coronavirus. This decision may create a massive crisis drowned in liquidity.

Governments and central banks are committed to do whatever it takes in terms of demand-side policies, spending and increasing liquidity as much as needed to avoid a 2008-style crisis. However, these measures, which were already ineffective for years, will be even less successful this time.

To start with, global policymakers made the mistake of implementing aggressive easing policies in a period of growth, which left them without effective tools to address the financial turmoil. When central banks cut rates and inject billions of liquidity in a period of growth and risk appetite, an urgent reaction due to a black swan scenario like coronavirus finds them with no tool that makes a significant impact.

What impact will the ECB have with a 120 billion euro per month asset purchase when it has already bought almost 20% of eurozone governments' debt in its misguided monthly 20 billion euro purchase and deposit rates are negative? None. Sovereign debt in the eurozone already trades with a negative yield, and buying corporate bonds of zombie multinationals did not help the eurozone economy nor will it help now.

Adding a monetary facility for SMEs only helps those who are indebted now, it does nothing for those small and medium companies that were prudent all throughout these years and now face a collapse in sales and accumulating fixed costs.

The Spanish government launched an urgent economic program of tax relief that, when you read the text, only applies to companies with sales below 6 million euros and maximum relief of 30,000 euro. Nothing. The vast majority of self-employed workers and small companies that face a lockdown that can last for months are not going to receive the slightest respite. In Italy, only the already indebted will see some relief. This is exactly the same all over Europe. Governments are implementing aggressive demand measures when the problem is not a demand issue and ignoring the real risks.

For most small companies and self-employed workers globally, a month of closure is a ruin. Two months is a catastrophe that leads to a domino of bankruptcies and layoffs.

The key factor is that the lockdown and economic crisis ahead comes on top of a very weak 2019 and 2018 for small companies, which are almost 90% of the corporate fabric in most developed nations.

Working capital kills more companies than the Government, but when the two factors come together, the risks of falling into a severe crisis are enormous.

What is death by working capital? Revenues plummet, rising unpaid or delayed payment invoices, while at the same time fixed costs accumulate and taxes continue to drown businesses. Most companies have very little liquidity. According to Moody's the large quoted companies have increased cash, but even at large multinationals -excluding tech giants and a few exceptions-, net cash balance sheet does not cover one year of working capital requirements, particularly in the eurozone. However, an average small company usually has enough cash to survive a maximum of two months of difficulties. Hardly enough to survive a complete shutdown and a pandemic crisis.

In 2019 there were already worrying signals. In the US, small businesses were struggling despite economic growth and low unemployment. Thousands of stores closed in 2019, and the statistics of Business Formation suggested a significant weakness ahead. 

Read the whole post here: https://app.hedgeye.com/insights/82075-emergency-smes-face-a-global-crunch-drowned-in-liquidity?type=guest-contributors

EDITOR'S NOTE

This is a Hedgeye Guest Contributor note by economist Daniel Lacalle. He previously worked at PIMCO and was a portfolio manager at Ecofin Global Oil & Gas Fund and Citadel. Lacalle is CIO of Tressis Gestion and author of Life In The Financial Markets, The Energy World Is Flat and the most recent Escape from the Central Bank Trap.

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