Hedging (Maturity Matching согласование сроков) Approach

If the firm adopts a hedging (maturity matching) approach to financing, each asset would be offset with a financing instrument of the same approximate maturity. Short-term or seasonal variations in current assets would be financed with short-term debt; the permanent component of current assets and all fixed assets would be financed with long-term debt or with equity. This policy is illustrated in Figure 8-3. If total funds requirements behave in the manner shown, only the short-term fluctuations shown at the top of the figure would be financed with short-term debt. The rationale for this is that if long-term debt is used to finance short-term needs, the firm will be paying interest for the use of funds during times when these funds are not needed. This occurrence can be illustrated by drawing a straight line across the seasonal humps in Figure 8-3 to represent the total amount of long-term financing. It is apparent that financing would be employed in periods of seasonal lulls—when it is not needed. With a hedging approach to financing, the borrowing and payment schedule for short-term financing would be arranged to correspond to the expected swings in current assets, less spontaneous financing

This loan to support a seasonal need would be following a self-liquidating principle. That is, the loan is for a purpose that will generate the funds necessary for repayment in the normal course of operations. (In fact we have just described the "ideal bank loan"—short term, inherently sell liquidating referred to as "STISL.") Permanent asset requirements would be financed with long term debt and equity. In this situation, it would be the long-term profitability of the financed assets that would be counted on to cover the long-term financing cost In a growth situation, permanent financing would be increased in keeping with increases in permanent asset requirements

Short- versus Long-Term Financing

Although an exact matching of the firm's schedule of future net cash flows and debt payment schedule is appropriate under conditions of certainty, it is usually not appropriate when uncertainty exists. Net cash flows will deviate from expected flows in keeping with the firm's business risk. As a result, the schedule of maturities of the debt is very significant in assessing the risk-profitability trade-off. The question is: What margin of safety should be built into the maturity schedule to allow | adverse fluctuations in cash flows? This depends on management's attitude to trade-off between risk and profitability.

The Relative Risks Involved. In general, the shorter the maturity schedule firm's debt obligations, the greater the risk that the firm will be unable to meet principal and interest payments. Suppose a company borrows on a short-term basis in order to build a new plant. The cash flows from the plant would not be sufficient in the short run to pay off the loan. As a result, the company bears the risk that lender may not roll over (renew) the loan at maturity. This refinancing risk could reduced in the first place by financing the plant on a long-term basis—the expicted long-term future cash flows being sufficient to retire the debt in an orderly man Thus, committing funds to a long-term asset and borrowing short term carries the risk that the firm may not be able to renew its borrowings. If the company should on hard times, creditors might regard renewal as too risky and demand immediate payment. In turn, this would cause the firm either to retrench, perhaps by selling of assets to get cash, or to declare bankruptcy.

In addition to refinancing risk, there is also the uncertainty associated with interest costs. When the firm finances with long-term debt, it knows precisely its interest cost over the period of time that it needs the funds. If it finances with short-term debt it is uncertain of interest costs on refinancing. In a real sense, then, the uncertainty of interest costs represents risk to the borrower. We know that short-term interest rates fluctuate far more than long-term rates. A firm forced to refinance its short-term debt in a period of rising interest rates may pay an overall interest cost on short-term debt that higher than it would have been originally on long-term debt. Therefore, not knowing the cost of future short-term borrowing represents risk to a company.