how is it that in times of crisis major businesses will go bankrupt within months? Do they have no savings or what?
In: Economics
I make widgets and sell them.
Another company buys my widget but they have 3 months to pay me.
They go bust and do not pay me. I have now no money for the widgets I made and I have to pay for the materials and wages.
I go bust and don’t pay the company that sold me the materials.
Much of business works on credit.
Something else to think about too is your own paycheck. You have money saved (if you’re responsible) but we’re living in extraordinary circumstances. How long could you survive off your savings and how much could you cut costs?
No one can objectively say how long things will be shut down at the moment or how long it will take customers to return even when things are safe. It could be several more months and a lot of responsible individuals can’t even last several months without some sort of income.
Disclaimer- I don’t think you need to panic, we’ll be ok but keep taking precautions and doing your best.
Major businesses spend a lot of money on private dinners and corporate events to coddle the top dog at the firm. Once a crisis hits, unless you fire the employees, executives still need to party. And partyin aint free.
Jumping on the general bandwagon with.. a lot of people think that because someone or a company makes a lot of money that they’re loaded.
That’s usually not true. A company may make a million a month, but they might also be spending a million a month, which flattens out to zero.
Or they make a million a month, but then spend 12 million or 24 million on something.. which requires 12/24 months of steady income at a million.
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.
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.
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.
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.
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