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The story about Robert and his colleagues continues. Follow them in their endeavor to improve long-term cash flow by fundamentally changing the way their company prioritizes when spending capexes.
(The Characters in this fable are fictitious; any resemblance to real people or facts within the Corporation is pure coincidence only)
Robert, the CFO, was in the middle of his presentation to the board. Mary, his CEO, sat amongst the rest of the board, next to the chairman, and listened. Robert and Mary had been through the presentation in detail several times in preparation for today. Mary had also prepped the chairman of the board and she felt confident. Still, the rest of the board had not been along for the ride. They had not gone through all the discussions, all the details, all the alternatives, all the scenarios, and sensitivities. They had not seen the entire project group, including senior management, go through an emotional, yes emotional, roller coaster of facing up to the industry’s long term realities. The members of the board had not seen how the group had not only accepted, but come to embrace the responsibilities of both creation and destruction that come with running a major company. Today, however, the board would see the outcome, the asset strategy that Mary’s team supported and believed in 100%.
Mary remembered how the project group, together with a team of specialist consultants, had created a so-called Base Alternative, an alternative where they just carried on, running all businesses as going concerns. The outcome, evaluated from a long-term cash flow and enterprise value perspective was thorough. Many sites were in dire straits already and would, if nothing were done, have to be closed over the next decade. Many participants did not, at first, believe the outcome of the Base Alternative. However, it soon became obvious to everyone that the future that the Base Alternative depicted was no worse or different than the history had been, and they had all been through it. The consultants and the specially designed software had guided the group throughout the process, from detailed model building to analyses of outcomes. Every participant of the project had their personalized interface with the tool and the consultants facilitated a collaborative process that still made all assumptions, calculations, and inputs transparent and possible to challenge and easy to test from a sensitivity point of view.
Once the Base Alternative was established, the real work got started. Assume that nothing is a going concern. What happens if we expand Mill A? And close Mill B early? Can we convert Machine 10 to produce something else? Is there an opportunity to rebuild the back-end of Mill D? Can we close two mills within three years and rebuild Mill F and G, etc. All in all, the group had constructed 25 different Strategic Building Blocks, individual strategic initiatives. These had then been combined into 97 different whole business Strategic Alternatives. Out of these 97 alternatives, one had panned out. One selected Asset Strategy that maximized the long-term discounted cash flow and enterprise value of the business. One Asset Strategy, which the entire team supported, even if not all were happy about all the decisions it meant implementing. They supported it from the point of view that it was the best way forward for the company. It was not necessarily the best way forward for each individual mill. They had learned in the process that the sum of what is best for each mill is seldom or never what is best for the whole company.
From a cash flow point of view, the result was very interesting. Historically, they had spent around 400 million USD per year in capexes. Interestingly, that number would slightly decrease on an average over the next decade. Yet they would spend it very differently. It would be much more concentrated. And they would get a lot more cash flow back, definitely more “bang for the buck.” The difference in enterprise value between the Base Alternative and the selected Asset Strategy was roughly 30%, or 800 million USD! Mary believed it. Of course, numbers would be different going forward. Neither they, nor the consultants, nor the tool was a crystal ball. Still, all the tests with sensitivities and scenarios had convinced her and the team-the value was in that ballpark. Not only that, for the first time since Mary had been in a senior executive position, she had a team running the company that was in alignment regarding the major asset decisions going forward. It would certainly make her life easier! Sure, things would change, things that they had not tested for. They would come up with new ideas. Good! Robert was just talking about how the tool would be used in the ongoing strategy process. How different users are responsible for updating data, how new Strategic Building Blocks can be created and allowed to challenge the current Asset Strategy.
Mr. Anderson, the chairman of the board, asked Robert and Mary, “So do you expect us to make a decision on this entire strategy as one piece? We cannot do that!” Mary had expected this question.
“No. We will ask for decisions on individual capexes and closures just as before, but we want to relate and evaluate all decisions in relation to the current long-term Asset Strategy. We no longer evaluate any strategic capexes or asset decisions in isolation. We ask for decisions on them just as we have done before, but we evaluate them and present them in the context of the long-term Asset Strategy. If you will, you can say that we are putting the horse in front of the carriage or giving the dog control of its tail.” Mary looked at Robert and smiled. She had started to appreciate his sometimes-stupid metaphors.
To be continued.
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You are wasting capexes – but you don’t have to…