China: The ideal business model?

 

To my mind as a financial planner the whole world economy currently hinges on ‘cash flow.’  Economists might call it ‘money supply’ but whatever way you call it if you don’t have the money you cannot buy the goods.  The western economies are concerned that they do not have cash to lend to businesses and thereby stimulate the sales process to get money flowing in the economy once again. And they blame the bankers. ‘They’ being whoever it is that wants to blame anybody for just about anything.

 

But: let’s look atChina.

 

In the western economies and particularly in theUK, a retailer will decide that they require a particular product and if they place the order with a western economy ‘provider/manufacturer’ they then determine the price.

 

The manufacturer then manufactures the goods thus expending money on the goods (the manufacturer’s money).  The manufacturer then delivers the goods to the retailer.  The retailer sells the goods and 90 days after delivery (and up to 120 days after delivery) they pay the manufacturer who can then restore the money they spent on manufacturing the goods and hopefully put some sort of profit away after interest.

If however that UK retailer determined that they wanted the same goods to sell and placed the order with a Chinese firm then 50% of the cash value of the manufactured goods would be payable with the order.

 

The Chinese manufacturer now manufactures the goods with the retailer’s money (no interest).  They then take the goods to the port of exit fromChina.  The retailer pays the manufacturer the balance of the order money before it sets sail for theUK.

 

The Chinese manufacturer and therefore the Chinese economy has used the retailer’s money to manufacture the goods which are now in transit to the marketplace. And let us say it takes 90 days to sell the goods, just to keep parity with the previous example, the retailer then gets their money back to replenish their cash flow to pay their interest and hopefully put some profit to one side.

 

The difference is quite stark. If you multiply that situation by hundreds, if not thousands, of retailers, is it any wonder that the Asian communities have thrived whilst western communities have slowly become bereft of that most precious resource: ‘cash flow.’  By advancing the cash flow model toAsiaon a rolling exponentially increasing say (12 month) cash to sale profile, billions of pounds, euros and dollars become embedded in the Asian economy to the detriment of the west – for nil return!

 

The answer, quite simply, is thatUKmanufacturers take 50% with order, the other 50% before the goods leave the factory gate and then the economy will have parity.  The problem now is that the western economists argue that retailers do not have the ‘cash flow’ to be able to facilitate that fairly simple move.  How, then do they buy fromAsia?

 

So what are the prospects forChinaas the main player in this cash flow roundabout?  Orders are drying up therefore their cash flow is starting to decrease.

 

Western money is no longer flowing into their economy at the rate that it was.  The Chinese manufacturing and shipping industries are slowing down apace; what could possibly be the consequences for the west?

 

 

 

The answer lies in whatChinawas doing with the money that they were getting in advance of the manufacturing process and the profits that they were making during that manufacturing process.  The cash that they had has been lent back to western economies through the purchase of western currency government bonds.  Loan stock at a good interest rate means that western economies are paying interest on their own money and paying it out to –China.

 

What this means of course is if the Chinese economy goes into reverse and the Chinese need their capital back, the loan stock that China holds will need to be redeemed causing a run on both currency and cash in western government circles.

 

Who says that the Chinese are not inscrutable?

 

You probably don’t need me to tell you where all this will lead. However, for my clients, I certainly would not be looking forChinaorAsiain the near future for capital growth or good returns.

 

If I was a western retailer looking to support my own economy and perhaps bail out the government when money starts to move away; back to Asia, I might even acquiesce to a local firm’s request for 50% with order and 50% before the items leave the factory gate.

 

As a cash flow conundrum,Chinahas really posed the west with a problem of huge magnitude which it seems only business people can resolve.

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