how is it that in times of crisis major businesses will go bankrupt within months? Do they have no savings or what?
In: Economics
Some companies do. Apple is notorious for the amount of cash it keeps on hand – around $100 Billion. Alphabet (owner of Google) does too.
But a lot of investors don’t like this. If a company is hoarding cash, investors think it should invest it in growth, or pay out dividends, or repurchase stock. Add to this short sighted management who think the good times will last forever (I’m looking at you, US airlines) and they don’t need cash.
I’ll take a stab at it. Seems like there could be a lot of variables and opinions.
The short answer is not really. For most companies having a lot of cash on hand or “savings” isn’t productive. If the company is publicly traded you will have investors clamoring for that cash via dividends or buybacks. Or you can choose to deploy that cash to make improvements to the business either via R&D (looking to develop the next big thing to stay relevant in the market) on capital improvements either building more manufacturing capacity or upgrading technology within manufacturing, or technology within the business to help improve it, or to help with grow your workforce and expand.
So, most companies have a small stockpile, but it’s not enough to sustain their operations in the face of a sudden drop like we are seeing globally currently.
Now, I did comment on someone’s post about the airline bailouts, because collectively the big four over the last decade have used some $43 billion on buybacks which really only to serve investors and insiders. Which now those insiders want the govt to bail them out so they aren’t wiped out despite us all knowing that investing is a risk.
Anyways hope this helps.
Depends which businesses you mean. Fact is at any one time there are plenty of businesses skirting close to the edge of ruin, it’s just that we’re not always made aware of it (or we don’t read the business pages). They’re folding because they’ve already exhausted options. For other large house hold names though (e.g airlines) it’s because there hasn’t been anything like this since WWII. 9/11 and so on were short sharp shocks but they didn’t stop the economy from functioning. The credit crunch comes close, but even then the remedy could be applied to the economy directly, because it was the markets that were unwell. In our current situation the social impact of the spread of the virus is far harder to contain or control. Business are anticipating far far lower sales that they have ever stress tested. That means that for many the only way to adjust to a smaller market is to either shed staff or go bust. Unfortunately putting staff out of work exacerbates the situation.
Well it depend on the business. What if they just made a new factory and so they have a lot of debt for some period of time when the crisis hit. What if they are very sensitive to the crisis in specific, for example construction here is doing not that bad, some project were stopped and we receive less work, but compared that to restaurant that were completely empty for the last week. The impact on different industry is different.
The cost of maintening a business can also be astronomical. The larger they are the bigger the cost. It doesn’t matter that nobody buy their product or services anymore, their income drop, but they can’t decrease their cost by much and no matter how much money you have aside it will be drained so quicly. Imagine a company with monstly cost of several millions, you can’t keep tens of millions aside just in case.
In addition, some companies might decide that it’s better to close now than to bleed for months before finally having to close. You don’t need to run out of money to close, you can do the math and figure out that you will for sure close in a couple of months and you are better off closing now and saving what you can.
In a lot of ways, it simply doesn’t pay to have cash sitting around. Companies work from year to year and often to avoid taxes etc it works out better for them to give bonus to staff, pay dividends to shareholders, invest in new operations, expansion etc.
There is no real business incentive to have a ton of cash reserves.
That means when a crisis comes along lots of business can only survive for a few months.
Businesses borrow money, which they use to make their company better at making money. With the extra money they make, they pay back their debts. This means that as long as a company is making more and more money, they can manage their level debt. If they suddenly stop making money, they have nothing to pay their creditors and the debt becomes a problem.
Businesses need to be efficient, so any money they have needs to be “working” for the business, having it sit in a bank isn’t good for the business when they could use it to re-equip a factory or open another shop etc to generate more profit.
To keep this super ELI5 you know how lots of times you hear that businesses don’t pay taxes? That’s because they take everything they earn and either reinvest it into the business or pay their employees bonuses (who then do pay taxes) and they get to appear that they’ve made no money so no taxes.
Now imagine they have no money because they’re doing accounting this way when they actually do have a period of time where they aren’t having any cash coming in they’re screwed and can’t cover expenses.
Savings can get you only so far. Consider your own household income: it’s mostly your paycheck that covers your living expenses and you budget off them. Same with companies: it’s mostly their revenue that is used to cover their operations. If suddenly they lose the revenue stream, as is the case now with airlines, they just run out of cash to fund their operations.
Another point here is that for the past few years borrowing money has been extremely cheap, so a lot of companies have been taking more debt because it made financial sense. As a result, though, companies have a lot of interest to pay and little cash.
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