Cash is still king

19 Aug 2013

In the tough current climate, how can companies report on cash and debt, and win the competition for capital? Jennifer Sisson explains

The ongoing economic downturn and continued strain on the availability of financing is a challenge for business. It means both management teams and investors are much more focused on cash and companies’ ability to fund working capital requirements, refinance and secure new debt.

Statistics show that there is a significant shift towards bond financing and away from corporate loans. So if companies want to raise capital at the right price, it’s crucial that they consider the needs of the fixed income investor as well as the equity investor.

How well are you telling your story?

Now is the perfect time to take a step back and assess your cash and debt reporting. Is it telling the right story to the market? Have you made sure that the information debt and equity investors need is clearly available in your accounts? Our survey of FTSE 350 reporting in 2012 – Trust through transparency – shows that there’s plenty of room for improvement on cash and debt reporting.

A clear future funding strateg y is vital

In the current climate, a failure to show clearly underlying cash and debt positions could be the difference between lenders ‘playing ball’ and ‘playing hardball’. If companies want to be bankrolled in this financial environment, crystal clear disclosure is essential.

As bond issues increase dramatically, fixed income investors tell us a similar story; they need to know the game plan for future financing.

There are a couple of basic questions investors want to know the answer to:

  • What is your current funding situation?
  • What is your strategy to access the capital you need to meet your operational and growth objectives?

But how do you answer these questions clearly? The first step is to include more insight than simply current cash and debt – define funding more broadly. Give details of the all important sources of finance, such as working capital (now and in the future) and payments in advance.

It’s also important to be consistent. Investors tell us that it can reflect badly on management if there isn’t a cohesive message across the annual report. For example, is the funding strategy discussed in the financial review consistent with that portrayed in the notes to the financial statements? It might indicate a lack of joined-up thinking and controls, or, in the worst case, an intention to deliberately mislead the market.

The most innovative reporters are tackling the problem of information on complex issues – such as liquidity risk – being scattered around the report by experimenting with ordering their notes, including ‘plain English’ introductions and moving elements of the financial review alongside the relevant notes to present each area more clearly.

How to win the competition for capital

Investment professionals tell us that companies can secure the right funding at the right price with three simple, voluntary disclosures: cash, net debt reconciliations (‘net debt rec’) and debt.

To take each in turn: cash flow is critical for investors. It’s a vital input to their valuations and allows them to understand management’s ability to service the entity’s working capital requirements and debt position – and any risk associated with it. Investors would like to see disclosure of capital expenditure split into ‘maintenance’ and ‘growth’ spend. Yet only 15 % of the FTSE 350 companies with debt discuss their spending plans to support their future priorities.

A ‘net debt rec’ is an easy way to assess whether an entity that seems to have had a significant increase in cash has, for example, achieved this only by taking on a corresponding increase in debt. Investors tell us that a net debt rec sets an organisation apart. In the FTSE 350, just under half (47%) of the companies with debt provide a net debt rec.

Investors also tell us that they need a comprehensive maturity table for all material components of debt, including the contractual maturity of each type of debt and when management expects it to be repaid (if different). Rather than reporting broad bands, investors are looking for year-on-year detail of debt repayments falling due. Only 32% of the FTSE 350 currently share this information.

Change won’t happen in a vacuum though, and companies clearly need advice on what information to include, where. They need not worry – there are market forces at work to help improve disclosures. Reporting labs, along with accounting and legal professionals (see page 16) are testing new approaches and practices to gauge their immediate impact on the relevance, practicality and usefulness of financial reports. It’s a development that investors and the corporate community alike have welcomed, and there are signs that companies are already adopting the new, recommended practices.