Why is financial stability important in business?
Financial stability brings companies multiple benefits. It gains a good reputation for the company, greater access to capital and greater influence in both industrial and political spheres. The benefits of financial stability are so great that it ranks of one of the main goals of business management.
Directors of financially stable companies gain personally from the status of the companies they lead. Thus, corporate management has a double incentive to ensure that they street their business towards stability.
Financial stability benefits the company’s image. Thus, a reliable company is perceived as producing reliable products. The reputation of the company increases the value of its brands, which, in turn, increases the company’s asset base and improves financial stability. Customers need to be sure that a large purchase, like a car will be supported by after-sales service. Any company that looks like it might go bankrupt loses sales through the inability to reassure the public that they will be around for the life of the products it sells. For example, customers are unlikely to book holidays and pay in advance if there is a rumour that the tour operator or travel agency is on the verge of going bust. They would not want to risk losing their payments, or being stranded in a foreign country if the company goes out of business while they are away on their holiday.
Employees need the security of a financially stable employer. Riskier companies have to offer higher wages in order to attract skilled staff. Stable companies encourage a stable workforce and so they are able to retain their skills base and get a higher return from their investments in training than those companies that experience a high employee turnover. Instability promotes insecurity in the staff. This nervousness can spill over into industrial action and disrupt production, thus further destabilising the company’s finances.
Profit is the reward for risking capital. A financially stable company represents less risk to shareholders and so its share price will rise to a higher multiple of profits than riskier alternative investments. This premium value enables companies to seek more capital through stock offer rather than having to raise funds through borrowing, thus enabling them to maintain financial stability even when expanding their operations.
Financially stable companies are better bets for banks than their unstable rivals. If the investment community is impressed by a company’s stability, that business can bypass banks altogether and issue bonds instead. A financially stable company that seeks bank loans is better able to negotiate lower interest rates and thus reduce costs and increase profits.
New companies without any financial history find it impossible to get good payment terms for supplies. Often they are faced with demands for cash on delivery, or even advanced payment. Stable, established companies can pay for their supplies in arrears, sometimes getting credit terms that allow them months to pay their bills. This facility gives the company interest free loans from their suppliers and so also enhances profitability and stability.