As the saying goes, “there are two sides to every coin,” and the current interest rate environment is no different. For those who borrow in their business, the higher interest rates make doing business more expensive and likely cause entrepreneurs pause as they consider their borrowing needs. Yet for those business owners who may have the ability to invest excess idle cash, for the first time in many years there are actually choices among how to do best do that. Whether your business is a net borrower or net investor, the higher interest rate environment we now find ourselves in means you should be considering how to best prepare.
For those who are borrowing, higher interest rates mean nearly every loan your business has is going to cost you more. That is most apparent in any debt that has a floating or variable rate – most often revolving lines of credit. That doesn’t mean you don’t have options, and business owners, CFOs, and controllers can take steps to minimize the impact of higher variable rates in several ways. First, ensure you are taking full advantage of the “spontaneous” financing available from your vendors and your clients by making payments just within your stated terms. Unless there is a meaningful discount for early payment, conserving your cash even by just a few days can reduce your reliance on your bank line of credit and the overall costs of borrowing. Similarly, now is the time to review and closely manage your invoicing process and accounts receivable (think: “quicker, more accurate, more timely”) to ensure prompt collection of what is owed to your business. Uncovering opportunities to be more efficient in collections will almost always mean opportunities to save money – the quicker you can collect means the less you need to borrow.
Even borrowing with fixed rates has become more costly for business today. When purchasing new equipment, buying out a partner, or considering a new real estate purchase, business owners can also blunt the impact of higher interest rates. One way is to reduce the term of the fixed rate; if instead of fixing the rate for 10 years, consider taking the option to fix it for 5, for example. Or if your business can afford to, reduce the amortization and the term on the loan to not only get a better rate but also repay it more quickly. Another option is to make your borrowing less risky overall, and there are several ways to entice your lender to provide a lower fixed rate, including a larger down payment, offering additional collateral, or agreeing to tighter loan covenants. Many bankers will gladly negotiate a stronger loan structure and terms in exchange for a lower rate.
Of course one surefire way to reduce the costs of borrowing is to reduce the total borrowings. In the face of higher interest rates, business owners may examine ways to use other sources of capital to fund their business. Retaining earnings can have the double benefit of reducing the need to borrow and making your business less risky to your lenders. While bringing in a partner isn’t always the right answer, bringing in fresh equity by selling some part of the company can accomplish the same thing.
For those businesses that have excess cash, today’s interest rates present what seems to be a novel challenge in how to invest that money. Reviewing carefully the amount of cash on hand the business needs to operate daily can reveal just how much excess funds may be available. If your company is using those balances to offset service charges from the bank (via an Earnings Credit Rate or otherwise), it may make sense to leave that in the checking account. Or transferring that excess cash to a bank money market account earning a higher interest rate is often the better option. Beyond that, your banker can also establish a ladder of Certificates of Deposit (CDs) that can further improve your interest earnings while still planning for and managing the company’s short-term, liquid cash needs.
Smart business owners and their finance teams realize that a different interest rate environment will mean they need to manage their business differently. Thankfully there are options for how to prepare your business for higher interest rates whether you are borrowing or investing