ACC 305 – Management Accounting 2

Management accounting

Since the first case was officially reported in Wuhan, China, Corona virus quickly spreads and accelerates to one of the most severe pandemic in mankind history. Global economy growth plummets to 3%, and even the most optimistic economists cannot predict a full recover in near future. During the pandemic, airline is perhaps the most affected sector due to broken global supply chain and high leverage ratio, a specific nature of this sector (Reuters, 2020). In May, world second oldest airline, Avianca Holdings filed for bankruptcy after failing to meet a bond payment deadline, while its Colombia government failed to provide necessary financial supports (Marcelo Rochabrun, Devika Krishna Kumar and Nelson Bocanegra, 2020). High leverage, which often cited as the key for profits in this sectors, is now the one to be blamed. Nonetheless, it is important to notice critical role of cash management given the context of pandemic.

As a typical “black swan” event, the Covid pandemic hit the world economy with surprise. Nonetheless, it is company’s failure in cash management of Avianca Holding that led to its bankrupt. Noren, Garrison and Brewer (2010) identifies five basic fileds of cash management including (i) Collections, (ii) Disbursement, (iii) Bank relations, (iv) Cash forecasting, and (v) Borrowing and Investing (Kieso, Weygandt, 2015). Regarding Avianca case, final failure in meeting debt obligations came from many sources, however, unable to forecasting cash flows, poor banks relation and imbalance in borrowing and investing cash are key determinant of Avianca’s bankruptcy. By the time Corona virus spread globally, Avianca holding was yet to show any actions to secure business situation; there was no loans from banks, no new bonds and still, new plan to purchase 20 new air planes from Airbus (Reuters, 20AD) .This combined with sudden reduces from operating cash flows due to the effects of pandemic, thus, put huge burden on company treasury. Further, Colombian government was inactive in providing necessary financial supports. All together led to shortage in cash of Avianca, made them unable to meet debt obligations and finally, filed for bankruptcy at 12 may (Reuters, 2020).

In response to such extreme event, it worth to recall our lesson from previous recessions, whereas credit crunch and similar broken global supply chain posed significant impacts on worldwide economy. Applying those lessons in the context of Covid pandemic, I offer some solutions as follow.

The first is improving cash report and forecasts. High level of uncertainty suggests that a quarter report is no longer suitable. Instead, I recommend weekly report of operation cash and monthly report of total cashflows would be better serve for current situation. In addition, company must adopt more sensitive business scenarios that capture as much as it can capture the risk of economic condition. I suggest a minimum range of six month of trading conditions; range smaller than this period might not specific enough to give predictions of overall economy, while a longer span would made assumptions regarding business operations far from actual states. Moreover, the scenarios must account for any aspect of the business whose impact on the cash is sufficient, so that the forecast can be implemented with higher degree of accuracy, thus allow for monitor and adjustment. Forecasting process will be instructive tools to deal with circumstances of Covid 19 as it offers an overall perspective of the challenges and opportunities of the pandemic, thus help the company to prepare solutions in proactive way.

The second solution is setting priority for cash disbursement based on stakeholders who offer the highest recovery level to the company. Normally, internal expenses are first priority, then is key suppliers, following by vendors and finally is lenders. It is important to reassess current level of debts and interest payment before giving decisions related to creditors, any extension or restructure must be thoroughly communicated with investors. Furthermore, company should find support from government in both loans, taxes and payroll. Those supports, if being utilized optimally, could arrange better payment plans and should be implemented as soon as possible.

The third solution is improving operating cash flow, or cash conversion cycle in specific. Unlike normal conditions, when companies primary focus on income statements, current unusual economic conditions force companies to spend more attention on balance sheet, or quality of assets. Companies have tendency to concentrate in inventory; nonetheless, in extreme even such as we are facing right now, I propose that a coordinate approach adjusts three of supply chain’s elements will be more appropriate results. Firstly, reducing cash conversion cycle means minimize working capital, thus reduce the burden on cash manager. Secondly, it is important to notice that other companies are facing the pandemic as well, thus the more quickly the company collects cash, the lower the risk of bad debts expenses to incur. Short cash conversion cycle provides timely recognition resources, creating higher opportunity for survival.

The fourth solution is revisiting costs. Normally, it is more effective to reduce variable costs than fixed cost, due to difference in liquidity. Although there are the typical boundaries that variable cost-reduction cannot go lower. If the company consider labor as specific factor of production, it should consider to re-negotiate labor contracts, or re-allocate workforces to other geography, or from permanent to temporary workforce. Laid-off should not consider as first option. If the pandemic could be controlled in near future, it will be very costly for company to recruit and training new workforces.

Last but not least, ensuring that the company have a robust framework for managing supply chain risk. It worth to notice the complex of supply chain management in which it comprehends daily operating activities as well as finance-related issues. The company should design an effective system that can communicate any problem exist in its supply chain to managers as soon as possible. This will help company receive up-to-date information and quickly react. During the pandemic, as the time is our opponents, the shorter the communication, the better company to react with difficult situations.

In summary, pandemic, as a typical “black-swan” event, poses significant impacts on global economy. Broken supply chain has been primary causes for failure of many famous corporation as it severely affects current business activities, thus renders cash management ability and threats their survivals, which Avianca is major victim. However, drawing from previous recession, my article propose some solutions that possibly help companies to get out of crisis. They are: (i) improving cash report and forecasting; (ii) establishing priorities for spending; (iii) shorten cash conversion cycle; (iv) revisiting variable cost and (v) preparing a robust framework for risk management of supply chain.

 

 

 

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