Four cash flow considerations for industrials companies
Industrials firms may face flexibility challenges during a crisis
INSIGHT ARTICLE |
Industrials companies deal with complicated cash flow scenarios every day, and the coronavirus pandemic has added another facet of complexity for business leaders of these organizations. During times of great economic disruption, there are four factors that make cash flow management even more challenging for industrials firms compared to businesses in other industries.
Here’s a look at important cash flow considerations for industrials companies during the crisis triggered by the pandemic.
Intensive capital requirements
The amount of time from cash investment to conversion can often be measured in years due to the need for capital expenditures to feed product development, specialized production, material handling equipment, facilities and tooling. Add to these direct operations requirements, including labor, inventory and packaging, and the timing of payables, receivables and inventory turnover, and the result is a complex analysis to determine cash requirements.
Given that the revenue model for industrials companies is product centric, there are significant challenges associated with adapting to sudden demand shifts. Challenges may include finding new markets or customers, developing new go-to-market partnerships, updating existing product offerings, and developing new ones. That said, we find that companies with strong balance sheets can reduce pricing to maintain and possibly increase market share. Further, companies that find new markets and applications for their products often partially offset decreases in their traditional revenue sources. Finally, support services revenue for products often increases as the company’s customers try to make do with existing, rather than purchasing new products.
Reliance on physical supply chains
Any change in the state of the value chain can have a crippling effect on the financial health of industrials firms. For example, if even a second- or third-level supplier is closed, the effect on one’s business could be lower asset utilization, increased expedite costs or production delays. To manage these risks, industrials companies routinely rely on mitigating mechanisms such as sales and operations planning, supply chain redundancy, inventory stores and stock piles. Of course, these mechanisms also consume cash. Global supply chain disruptions may be lower cost at a steady state but are also less flexible and can magnify disruption.
Given the nature of physical products, industrials companies may require more time to recover from cash flow disruptions than businesses in other, less capital-intensive industries. Although all industries deal with various financial terms, unplanned changes to cash receipts and payables, for example, extending payment terms from 30 to 60 days, can further constrain industrials companies. Because industrials companies generally have not adopted the electronic payment-on-receipt capabilities that are prevalent in financial institutions and consumer digital applications, they often expend a great deal of human labor in the accounts payable and accounts receivable functions.
All of these factors can contribute to a lack of flexibility for industrials companies in times of crisis. To deal with the current economic disruption, there are immediate and longer-term actions that can be taken to conserve cash. For example, industrials companies have already adopted cash conservation techniques such as delaying capital expenditures, liquidating inventories, extending credit lines, furloughing employees, accelerating collections and delaying AP. They have also generally reassessed their cash flow models, although the models should be continually reevaluated and updated to reflect current expectations. For many industrials companies, the next step will be to perform scenario modeling in light of more strategic, longer-term considerations such as reprioritizing investments, potentially liquidating or redeploying underutilized assets to meet new needs or customers, entering into new relationships, and reconfiguring supply chains with a bias toward regional-local factors.
Industry 4.0 implications
The crisis is quickly becoming a case study for the effectiveness and practicality of Industry 4.0, the integration of more digital technology with existing processes in the industrials space. We are seeing that to the extent that companies have adopted Industry 4.0 technologies, they are likely much better positioned to conserve cash in today’s environment. For example, digital models, collaboration tools, virtual/augmented reality, and 3-D printing technologies can drive order-of-magnitude savings in cash required for capital investments. Related to supply chains, sensor technologies / internet of things, GPS, smart contracts and artificial intelligence are increasing transparency, while also increasing product quality and efficiency throughout the supply chain. With regard to financial terms, Industry 4.0 technologies such as robotic process automation, direct-to-customer digital sales/subscriptions, and IoT are creating efficiencies and removing friction resulting in better cash terms and improved customer satisfaction.