Strategies for Businesses in Low-Interest Environments (Opinion)

Interest rates are expected to stay at historic lows on both the short and long end of the curve for the foreseeable future, prompting many executives and board members to consider the implications on their organizations.

Interestingly, the most effective strategy for businesses in this low-interest rate environment is to not let interest rates drive strategy.  The role of financing is to support the strategic initiatives of the organization, and while a low cost of capital is beneficial, it will not be an effective long-term mitigant to a weak business model.

Therefore, management’s first priority is to reevaluate the corporate strategy. The second priority is to analyze the financial aspects with the single goal of maximizing the financial flexibility unique to each entity.

However, there are certain themes — liquidity, leverage and the transfer of wealth — that apply to every organization and are particularly relevant in this interest-rate environment. 

A fundamental principle in finance is that liquidity is critical to an organization’s survival. Organizations may consider certain tactics in this regard.

• Evaluate the treasury function. An effective cash management structure can accelerate cash flow, thereby freeing up cash trapped in the system. Redeploy this cash to build up liquidity, pay down debt or fund capital expenditures.

• Establish an investment strategy. Every organization should have an approved policy that determines a balance between maximizing liquidity and returns. The challenge in today’s interest-rate environment is investing these balances effectively.

It is important to avoid the urge to chase yield. The few extra basis points are usually a function of additional duration or increased risk that might tie up your funds for a longer period of time and reduce your financial flexibility.

• Assess working capital lines of credit. Financial officers should first confirm the lines of credit are committed and structured appropriately. Second, they should make certain they are being used efficiently to avoid the negative arbitrage between low-interest income on idle excess cash and the interest expense associated with borrowings.

Return on equity is enhanced with leverage. However, too much debt and the cost of that debt can be debilitating. Therefore, management should take the time now in this interest-rate environment to evaluate its overall capital structure.

 • Debt schedule. The first step is to determine the appropriate level of debt (here again, excess cash can be used to reduce debt and increase the returns on the cash), the type of debt (bank, equipment financing, private placements, bonds, etc.) and the balance of short-, medium- and long-term debt.

While the above thoughts are relevant for any organization, family-owned businesses have unique wealth transfer considerations.

Low interest rates and depressed values create a window of opportunity for the transfer of wealth between generations. This might be accomplished through intra-family loans or loans to grantor trusts with minimal or no gift taxes.

Further, if you believe that future income and appreciation of assets will substantially outperform the low interest rates, this enhances the planning. 

Ultimately, each business must decide for itself how to act in this historically low-interest rate environment. The right one for a specific organization should be devised only in consultation with financial partners and advisors. Do not allow low interest rates to distract an organization from adhering to the corporate strategy.

By determining its strategic direction and then evaluating the financial plan for maximizing liquidity and appropriately utilizing leverage, an organization can set the stage for future success.

Jett Cato is president and CEO of Bank of Arkansas. He can be reached at [email protected].