Covid-19 lockdown: Here are 2 ways SMEs can show financial prudence by optimizing cost, and beat the economic downturn
Published on: May 15th, 2020

CEO's Desk

There are no two ways about it: Small and Medium Enterprises (SMEs) in India are going through a rough time. The simple question now is: How will they overcome this? Today, we will take a look at how financial prudence can go a long way in tiding over these tough times.

Now, we already understand that 75 percent of all SMEs in India may be able to survive this lockdown and the resulting economic slump.

We have also established that there is a need for some lending reforms that will ensure small businesses get easier and greater access to loans.

Today, we focus on what SMEs themselves must do on the financial prudence front to make sure they are prepared for some inevitable monetary hurdles.

1. Hike endurance, spike some spending

The country is beginning to open up with some green zones. As a result, some SMEs will look to restart their manufacturing, which will take care of market supply.

However, market demand may not be ready to absorb all the supply as yet. It will take some time for demand to revive. Till then, SMEs will have to go into endurance mode.

The cost of operations for enterprises will definitely increase. This will mean SMEs will have to optimize other costs to ensure they stay afloat. The challenge here will be to do all this without losing market share.

One easy way to curb spending would be to reduce staff. However, re-hiring and re-training critical staff may cause a greater disruption than the lockdown. SMEs can show greater financial prudence, instead, by implementing short term salary cuts, and introducing variable pay programs and work from home (WFH) arrangements. WFH not only reduces costs for firms but also reduces daily travel and food costs for staff. Of course, employees will need to adhere to well-defined productivity metrics to derive benefits from WFH.

Another way to reduce operating cost would be automation, and this one is becoming increasingly difficult to ignore. Take chartered accountants (CAs), for example.

CA firms have relied on interns who often work for less pay for the opportunity to learn the ropes of the profession under seasoned professionals. Firms often let interns do a lot of their work, effectively lightening the workload of those higher up.

However, after the coronavirus pandemic, CA firms may be hard-pressed to find such interns. That is where they might turn to software solutions to automate certain tasks. And other industries could follow suit, especially for administrative tasks.

2. Debt-equity balance

The second way to achieve financial prudence is to be careful about what kind of finance is availed by the business. SMEs should try to achieve the correct balance between debt and equity.

Sure, owners of established SMEs may want to take out urgent loans to do things like paying employee salaries. However, they should also infuse some of their own equity into the mix to keep the business going.

The ideal balance is one part of equity for every two parts of debt. With this, SMEs can achieve the balance between keeping cost of capital low and avoiding cash flow mismatches in the short term, but that is not all. Owner’s equity shows commitment to the long-term future of the business. It demonstrates confidence to all stakeholders, be it employees, lenders or customers.

Yes, this is going to be a cycle of highs and lows. That is why financial prudence and business endurance become necessary.