COMMENT:

Corporate NZ has the chance to examine the strength of its balance sheets and increase the diversity of funding options that are available writes Penny Ford

As fast as Covid-19 invaded our shores, so too did the rush to shore-up the balance sheets of our largest businesses.

Thankfully, lessons learnt from past crises meant many NZ companies have entered the current period of uncertainty with lower levels of overall debt and a spread of funding maturities, giving them the financial flexibility they need.

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With that flexibility has come relative stability, and many large corporates have come through lockdown in relatively good shape with time on their side to work through their next move.

With markets up and revenue returning, you could be forgiven for thinking that we've done ourselves proud.

To an extent that is true, as fiscal support from government and sound financial management from New Zealand's business community has cushioned what might have been a more severe blow.

But from crisis comes opportunity, and corporate New Zealand now has the chance to examine the strength of their balance sheets and increase the diversity of funding options available to them.

New Zealand banks are relationship driven and have a strong understanding of their customers' business, which leaves them well placed to provide support when times get difficult.

However, the ability of banks to provide the additional support required is often determined by how well structured and flexible a company's financial structure is when entering a crisis.

Just as diversification is key in an investment portfolio to spread risk, diversification on the balance sheet acts in the same way.

BNZ's Penny Ford
BNZ's Penny Ford

The speed with which many larger institutions were able to work through the financial impacts of the Covid crisis speaks to their focus on low gearing and access to a variety of forms of capital to produce balance sheet flexibility. Rather than be governed by their debt repayment timelines, many large institutions were comparatively liquid, had good headroom in their bank facilities and the ability to call on equity when it has been considered appropriate.

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At the opposite end of the spectrum were those most indebted. And while debt is not a bad thing when deployed to fund productive assets, reliance on it as a solitary form of capital in times of crisis can make things tough. Issues that may have existed before Covid-19, such as unstable or undiversified cash flows and illiquid assets, are made worse if the company's balance sheet is not resilient heading into a crisis.

Having access to multiple forms of capital is a deliberate strategy.

Rather than forecast the future, businesses who have managed well through Covid-19 planned for unpredictability.

They've run a number of scenarios to test the resilience of their business and have used this testing to ensure they have the right financial settings to operate through times of extreme volatility.

Planning of this nature is not for the faint hearted, it requires a business to move away from managing at a minimum funding cost to build balance sheets able to withstand unpredictable scenarios, on timelines beyond the maturity dates of current funding commitments.

Scenario planning is essential and as we have seen during this crisis, financially sound businesses have typically optimised their balance sheets with less near-term funding, low gearing and relatively long-dated financing.

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Tapping the equity markets Compared to other countries, New Zealand's economy is in relatively good health. It is still early days, but the public mood is more buoyant than expected and investors are looking for places to put their money.

The positive mood has played out in the equity markets where large New Zealand businesses have recently raised capital. Any fears of investors being wary have faded away with most capital raisings over-subscribed.

The timing for going to equity markets is always a key consideration. While some chose to act quickly post-lockdown, others have taken their time, allowing the dust to settle before seeking additional equity capital.

Capital raised on the NZX in recent months has not just been used to shore up balance sheets either. Unlike the fundraising in the 2008 financial crisis, where proceeds were used to repay debt or provide working capital, some companies raising money now are doing so to take advantage of opportunities they see ahead.

More capital raisings are likely to occur through the rest of this year and the next, which suggests our markets are functioning relatively efficiently.

Businesses will be buoyed by the potential to generate funds to strengthen balance sheets and aid investment, and investors should feel positive about the potential to get a slice of good companies that are managing their risks and opportunities well.

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While equity markets are working as required for listed companies, large businesses outside the NZX have also found ways to build capital around their debt position.

This process tends to be quieter with no requirement to make public declarations of intent, but private and wholesale investors are actively looking for opportunities to invest across the credit spectrum and some have already done so.

Environment, social and governance factors (ESG) Covid-19 put sustainability squarely on the agenda. It sits close to the heart of the economic recovery plan in New Zealand and offshore, and businesses were already actively considering their impacts on the environment and society. Now, the importance of these factors has been elevated and investors and lenders are increasingly considering ESG elements when assessing a business's long-term prospects.

Banks are encouraged by financial innovations such as ESG-linked loans and green bonds, which can deliver value for all stakeholders — in particular, positive outcomes for the environment and communities.

The benefit of these funding instruments for businesses is that they can support and incentivise companies' sustainability strategies, lifting the focus from compliance to ambition.

Amidst comparative calm, there is an opportunity for New Zealand's corporates to explore other forms of funding that sit between debt and equity in preparation for the future.

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These include subordinated, hybrid and convertible debt. They come with an array of characteristics and can often be tailored to best suit a business's long-term capital needs.

These instruments are more complex than traditional forms of debt, and investors and companies need to ensure that they understand the risks and benefits involved.

Where to next? It's a long and uncertain road ahead, but corporate New Zealand has shown itself to be relatively robust.

With Covid-19 being effectively managed at present, and encouraging signs in our capital markets, companies now have breathing room to explore their financial options and ensure they have the optimum balance and composition of debt and equity on their balance sheet.

- Penny Ford is the Executive in charge of Corporate and Institutional Banking at BNZ.