MMG | December 21, 2015 | http://www.middlemarketgrowth.org
Since the 2008 financial crisis, the Federal Reserve has kept its benchmark interest rate near zero as a way to help the economy get back on its feet. With the U.S. economy and financial markets on more solid ground, the Fed initialized rate increases on Dec. 16, with an increase of 25 basis points.
Despite the rate increase, investment in middle-market businesses is expected to remain steady. A recent TD Bank survey found that nearly three-quarters of financial executives noted the increase will have no impact on their borrowing plans, while 6 percent said it will make them more likely to borrow.
Here are five ways executives can make sound financial decisions in the new economic environment:
1. Refinance. Companies with fixed-rate debt should have refinanced already, but since there hasn’t been a strong sense of urgency, many businesses that were eligible to refinance failed to do so. The Dec. 16 rate hike helped spur motivation to undertake these transactions or to consider using fixed-rate debt to support new initiatives. For instance, TD Bank helped several not-for-profit organizations, including many colleges and universities, refinance variable rate bonds over the past year and secure long-term, fixed-rate financing in advance of the Fed’s decision. By doing so, we eliminated the interest rate risk for these organizations and allowed them to control their long-term costs.
2. Be mindful of expected yields. December’s rate hike is fairly minimal in terms of inflation and interest rate impact. However, an increase of 75 to 100 basis points is possible over the next 12 months, which could have a greater impact on future business strategy. The current low interest rate environment is beneficial for borrowing, while investment yields remain low. Companies with cash on hand will want to remain liquid in the near term, as interest rates further increase to make investments more attractive.
3. Learn from the past. From 2010 through late 2013, businesses stockpiled cash reserves, which thwarted any expectation of robust economic expansion. By not spending, companies fail to engage in activities that could spur a strong recovery in the United States and larger foreign economies. Now is the time to take advantage of the economy’s growth and make the necessary purchases that will drive business in 2016. The results from TD’s survey reveal that financial executives are focused on revenue growth and are less concerned with the risk around the 25 basis point increase.
4. Invest in capital equipment. The survey also showed that 61 percent of companies anticipate making capital expenditures in 2016, with investments in technology, facilities and data security topping the priorities list. Investments in capital equipment, whether through purchasing or leasing, are especially important before rates climb even more. Companies that put larger purchases on hold for several years now see a need to reinvest in the business to increase operational efficiencies and enhance productivity.
5. Evaluate the interest rate and dollar exchange rates. Before hastily reacting to the Fed’s recent decision, business owners need to determine what will have more of an impact on their business—the interest rate or dollar exchange rates—and how that will influence operations in 2016. Domestic-oriented businesses with domestic customers will be most affected by the rate hike. Conversely, continued strength of the dollar is more worrisome for companies that work internationally. A company that maintains modest debt and adequate cash reserves will be better equipped to weather the downturn in export markets like Europe and Asia.
Middle-market companies need to examine where the Fed’s initial interest rate increase fits into their business’s future plans. Ultimately, the Fed’s decision confirms stability and economic growth. While remaining strategic, it’s also important to take a moment to appreciate the resilience of the American economy that has prompted these rate increases. //
Bill Fink is chief lending officer and head of credit management for TD Bank’s commercial banking group.