PUBLISHED ON 27.09.2023.
Inflationary pressure facing corporations in Malaysia has recently garnered headline attention due to its negative implication on corporate earnings. Post-covid business recovery prospect that businesses were hoping for in recouping its losses that were incurred during the Covid 19 period was short-lived as businesses are currently battling stubborn inflationary pressure that affecting its profitability and liquidity.
The current inflationary pressure is rather persistent and concerning as many believe that prices may not subside anytime soon. The Ukraine- Russia war, China-US trade war and First-Third World interest rate disparity, all occurring at the same time is inflating prices across the board and drastically challenging the well accepted “status-quo” on how businesses were used to in conducting its affairs in the past. Further, the emerging popularity of economic bloc, BRICS and the economic incentives extended to its members, particularly on the subject of preferential pricing (discounted prices) on commodity purchases need to be deliberated and debated among economists as to what extend it will affect commodity prices and supplies to the rest of the world. Any preferential commodity pricing between members’ countries would create the opportunity to stockpile commodities excessively for domestic consumption or for meeting certain national security agenda that to a certain extent may cause global shortages.
Generally, companies, either being privately held or listed on BURSA, particularly when its products and services are subject to public demand are reporting lower gross profit and/or lower net profit in the current quarter in comparison to the same corresponding quarter of the previous period. Some are unfortunate and in distress situation that require immediate fresh capital for its survival, while others are already subjected to mandatory liquidation. Further, there are number of cases require immediate restructuring due to depleting gross margin, negative operating cash flow, net losses and lower business volume, all cropped up simultaneously as a result of the current economic climate. Higher input cost in acquiring raw materials for production purposes, higher energy prices, higher freight charges, higher manpower cost, dwindling product demand as well weaker Malaysian Ringgit performance against major currencies are some of the grievances reported by senior managers at various corporations. Generally, to compensate the increase in input costs and mitigate substantial margin erosion, corporations would to a certain extent make an immediate upward revision to its selling price of goods and services in which to be offered to the end consumers. This effort is highly recommended but to achieve a meaningful result, such effort must be accompanied with an extensive cost rationalisation exercise as described in the next paragraphs.
Companies that incorporate consistent and continuous cost rationalisation exercise as part of its day-to-day operation rather than only taking drastic steps on an ad hoc basis when facing economic backdrop tend to fair better in maneuvering difficult times. This “ad hoc” cost rationalisation exercise can no longer sustainable, given the complexity of current business environment and longer time may be required to formulate workable exercise through monitoring and adjustments. It is also important to stress out that price itself by its nature is generally bound to move in upward trajectory over time, therefore continuous cost rationalisation is the best solution.
Many may not realize the severity of the situation and make presumption that better days are just around the corner where prices will eventually stabilize and return to normalcy as it had in the past crisis. Some would procrastinate its restructuring plan and take a wait and see position. Inevitably, these businesses may not have sufficient time to react should the economy make another turn for the worst or continue its current state for longer period. Soon enough, financial losses accumulated over a short period would be substantial enough to offset the available reserves on the balance sheet, in turn, may lead to insolvency and a dramatic mandatory liquidation.
A true financial reformist would argue that the current inflationary pressure that we are facing is unique and a product of geopolitical conflict between large economies with tremendous amount of commodity resources that unlikely to be resolved in the medium term. It has been argued that the parties in conflict can pursue long conflict and withstand economic disruption at domestic/international level and make the necessary safeguard to ease any inflationary pressure domestically by limiting export of its surplus and discounted commodity stockpiles. Parties outside the conflict, like us in Malaysia that relies heavily on imported commodities due to lack of domestic supplies, may be the victim of this uneventful situation by paying much higher commodity prices because of the limited global supply, not to mention the already weakening of Malaysian Ringgit that makes matter worst.
As a result of the above, corporations must take immediate cost rationalisation steps by zooming into its core expenses such as “Cost of Goods Sold” and “Operating Expenses” to improve liquidity and profitability. Liquidity must be given top priority to buffer against further distortion in the market and meeting any financial commitments that will be due in the immediate future.
The followings are 18 restructuring steps that can be considered:
- Clear and realistic budgetary control to reduce core expenses to an acceptable level,
- Adopt cash flow projection on timely and accurate manner to mitigate cash flow mismatches,
- Benchmarking core expenses with other companies within the same industry, both at domestic and regional level, are recommended and make the necessary adjustments,
- Adopt lean manufacturing and substitute fixed cost with variable cost when necessary,
- Automate key processes,
- Outsource non-core activities,
- Determine excess capacity in monetary term and make the necessary adjustments,
- Reduce wastage, rework and defects by limiting “Time to Market” issues to improve stock turnover period,
- Calculate cost of product accurately and pricing must be strictly based on product life cycle to support revenue and facilitate stock turnaround period,
- Broaden supply chain option by pursuing the best possible price and stability of supply. Avoid relying on single party supply on critical manufacturing inventories. Consider bulk purchase to secure the best possible price,
- Negotiate settlement currency of imports with currencies other than US Dollar, until situation improves,
- Debts denominated in US Dollar must be addressed urgently,
- Renegotiate shorter trade terms extended to customers and extend trade creditor repayment period,
- Review debtors’ doubtful account and consider setting up taskforce for collection recovery. Restructure the debt when necessary and tighten credit control,
- Reduce short term borrowings and consider long term borrowings. Renegotiate and restructure terms with financial institutions,
- Consider insuring credit to export customers to minimize loss from default,
- Scrutinize assets and its corresponding liabilities on the balance sheet. Depending on its rate of utilization, make the strategic decision on whether the assets should be leased than purchase outrightly. Non-core assets with low utilization should be disposed and
- Contingent liabilities such as corporate guarantee must also be reviewed considering changes in market conditions.
At Megat Faizal Musa & Co, we provide extensive advisory work on restructuring & recovery, turnaround of underperforming companies, lean manufacturing advisory and budgetary control work.
Disclaimer:
This article is the personal opinion of the firm and should not be relied upon in making financial or non-financial commitment. Any financial and non-financial losses incurred by the reader/(s) in relying on the content of this article are not the responsibility of the firm. This article is merely expressing the general outlook of inflationary environment in Malaysia at the point of writing and inflation is a broad subject that can also be caused by many other complex factors that are not explicitly expressed in this article.
The 18 cost rationalisation steps proposed in this article are not in any particular order of importance. They are chosen and listed randomly. Further, the application of the steps should not be taken on a “stand alone” basis and must be accompanied with professional input and interpretation from qualified accountants. Please contact the firm for professional advice.
This article is the property of the firm. Written approval is required from the firm for personal and/or commercial use by third party/parties.
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