IF you have missed part one, click the button below to read from the beginning.
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)
Glen, who had worked as a process engineer in the pulp mill for 20 years, did not understand it. A group of corporates had just finished a short speech to the employees at the mill. The mill was shutting down. Not temporarily, but for good. Only a couple of years ago, more or less the same group of people was giving a very different speech after having spent close to $100,000,000 on replacing digesters and upgrading the bleach plant. Glen remembered the enthusiasm; he himself had crunched much of the data behind the decision to invest. The payback was less than 24 months and the mill’s return on capital employed that year before the capex decision was reported at 20%-well above the group average and target. The project had, for the most part, been successful and was implemented more or less according to plan. Yet, here they now stood, only a couple of years later, facing a closure.
Mary, the CEO, was also thinking about that $100,000,000 capex. She had been the group CFO at the time and she had endorsed the decision. Mary bitterly regretted it now. Not only did the money invested go to waste, but maybe more importantly-they had not spent that money in the mills that they still operated and that they hoped to operate for many decades to come. Still, she did not know if she would act differently if faced with a similar decision now. How could she avoid making the same mistake again? The numbers-the net present value, the payback, and the mill’s return on capital employed-all pointed her in the direction of making the decision to spend the money. Additionally, the mill management had easily convinced her of the technical and market need for improving brightness and quality. Yet here she was-communicating the permanent closure of the mill. When in the car with Robert, the current CFO, she asked, “Robert-how can we avoid spending large amounts of money on sites only to see them go down a few years later? What the **** is wrong with our capex process? Why could we not see this coming?” She was now talking more to herself than to Robert. “It is not the first time, and I bet it is not the last time. Don’t even get me started on acquisitions! How many of those have we lived to regret? Robert, I know I am upset now, but tell me how on earth I, with a straight face, can tell my board when they ask critical questions on our capital expenditures or acquisitions that it is all different now, that we have learned our lesson. We are not different! We continue to do the same thing, over and over again. And it’s not only us. It’s the whole industry! Robert, tell me – what should we do differently?”
Robert was quiet for a short moment. He had spent a large amount of time over the last six months, when agonizing over the closure decision, pondering that exact question. “Mary, I don’t think it is the capex process as such that is at fault. I think it is a case of putting the carriage before the horse, or the tail wagging the dog.” Robert could see Mary opening her mouth to say, “What?” but he raised his hand and pleaded, “Bear with me.” He continued, “I think that our capex process is so strong and institutionalized that it has taken precedence over any long-term capex allocation strategy that we may have. The capex process should be there to help administer and implement a long-term asset strategy or capex allocation strategy. I am not talking about a three-or five-year plan, but something much longer in scope. After this closure, we have 12 sites with a capacity of around four million tons of packaging, pulp and paper. If we disregard acquisitions for a while, do you think that we will have all 12 existing sites operating 15 years from now?”
There was a moment of silence. “No, we won’t,” replied Mary.
“I agree. I don’t think so either,” said Robert. “If I had to guess, it will probably be closer to seven or eight sites still producing more than four million tons-or even more.” Again, he paused. “We know that we will be facing closures. Continuously. We also know that we will need to expand other sites.”
“I think you are right Robert, so what should we do?” Mary asked again.
Robert continued, “I have the feeling that closures are something that “happens” to us, something we are “forced” to do. It should not be like that. We should take responsibility and plan for closures and exits, long before they happen. We should choose, based on the long-term cash flow for the whole system of mills, where we should be long term and where we plan to exit three, five, and ten years from now and how to coordinate that with expansions and volume moves to the remaining system.”
Robert paused for a second, thinking. “Go on, I’m listening,” said Mary.
“I think in such a capex regime no decision can be made in isolation. Each and every capex decision needs to be tested against the larger and system-wide asset strategy. Does it fit or does it change or challenge the current strategy? In short, we need to put the horse in front of the carriage and give the dog control of its tail….”
“I am not sure I like your lousy metaphors, but **** it, you are right,” said Mary. “Robert, I want you to look into this now. I mean it. Now. I am not making any large strategic decision before we sort something out. We need a long-term asset strategy and we need to connect that to the capex process. And Robert…this cannot be a financial exercise. We need to involve market, business owners, energy, engineering, controlling, raw material supply, etc. I don’t want this to be a one-time thing. Who can help us? Where is the external expertise? Where are the tools? How can we get this into our DNA? And also, how much would it be worth to us?”
To be continued.
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You are wasting capexes – but you don’t have to…