Cash is king! Why cashflow generation should prevail over storytelling, especially for young companies.<\/p>\n\n\n\n
Young, fast-growing companies very often look for debt financing as soon as possible in their lifecycle.<\/p>\n\n\n\n
They are currently incentivised to do so – particularly to finance their environmental transition – with the decrease in interest rates since the beginning of the year.<\/p>\n\n\n\n
When confronted with potential investors, the temptation to embellish their reality through overly optimistic forecasts is naturally quite high, paving the way for storytelling, to the detriment of a clear focus on sustainable cashflow generation.<\/p>\n\n\n\n
This is just an illustration of the difference in approach between equity analysts and credit analysts.<\/p>\n\n\n\n
One cannot stress enough the risk associated with disconnecting ‘cash’ from the accounting reporting, especially under IFRS.<\/p>\n\n\n\n
Credit analysts generally adopt a more conservative approach when it comes to forecasting.<\/p>\n\n\n\n
They look for stable cashflows, recurring revenues, and security, to cover the debt servicing costs with sufficient headroom.<\/p>\n\n\n\n
As a matter of fact, unprofitable businesses are penalised when it comes to credit analysis.<\/p>\n\n\n\n
Additionally, lower credit quality means higher interest costs, making debt financing less attractive for these companies and putting pressure on their cashflow.<\/p>\n\n\n\n
Assessing the overall creditworthiness of companies is a mix of assessing their business risk profile and their financial risk profile, combined with some ESG assessment both at the industry level and with respect to the company’s own practices.<\/p>\n\n\n\n
Young companies seeking financing often present the same characteristics: innovative\/disruptive products with promising prospects in the targeted market, but low or negative EBITDA, and by extension negative free cashflow.<\/p>\n\n\n\n
Regardless of the degree of maturity of a company, the business risk profile and the financial risk profile are inseparable as financials always reflect how business is conducted.<\/p>\n\n\n\n
Not being able to generate sufficient positive EBITDA generally entails weak cashflow metrics, albeit sometimes temporarily mitigated by recurring equity injections (to support growth and related funding needs).<\/p>\n\n\n\n
This enhances the capitalisation ratio (equity\/debt) but can also positively impact the net leverage ratio (net financial debt\/EBITDA).<\/p>\n\n\n\n
Regarding their business risk profile, the competitive positioning of these companies also turns out to be mixed.<\/p>\n\n\n\n
The industry risk assessment is favourably impacted by that of the entire sector.<\/p>\n\n\n\n
On the flipside, company-specific factors, such as scale and diversification, are obviously rather weak in the absence of maturity.<\/p>\n\n\n\n
Consequently, being rated by reputable credit rating agencies with validated methodologies is paramount for them.<\/p>\n\n\n\n
While corporate ratings for this type of companies are often naturally capped at the B category, thanks to additional securities, pledges, collateral assets granted to creditors etc, instrument ratings can sometimes be higher than the corporate rating.<\/p>\n\n\n\n
This does not automatically disqualify debt financing from a company’s options but makes it even more essential to receive a rating from a credit rating agency.<\/p>\n\n\n\n
While credit analysts acknowledge that ramp-up phases are essential, cash-consuming steps in the life of any company, financial counterparties have reinforced their requirements on the back of a prudent approach.<\/p>\n\n\n\n
In the end, young companies’ CEOs have to bear in mind that EBITDA must cover interest expenses, and that debt service must be covered by annual cashflows.<\/p>\n\n\n\n
Profitability and recurring cashflows are indeed the key to a good credit rating, and by extension to facilitate access to European debt markets to finance growth.<\/p>\n","protected":false},"excerpt":{"rendered":"
Cash is king! Why cashflow generation should prevail over storytelling, especially for young companies. Young, fast-growing companies very often look for debt financing as soon as possible in their lifecycle. They are currently incentivised to do so – particularly to finance their environmental transition – with the decrease in interest rates since the beginning of […]<\/p>\n","protected":false},"featured_media":0,"template":"","meta":{"_acf_changed":false},"class_list":["post-50338","opinions","type-opinions","status-publish","hentry"],"acf":[],"yoast_head":"\n