“We have to pivot.”
Executives love to use the word when their previous decisions and direction no longer make sense. Enterprise companies may make a strategic pivot every few years. A tech company might make a strategic pivot several times a year.
But for some companies, there are instances when they can’t pivot. That’s because certain strategic decisions lock them down, not for years, but for decades. Welcome to the world of capital-intensive industry in which our consulting firm works.
We’ve advised clients who are running sixty-year-old mills. Their executive predecessors made a decision in the 1950s. Their manufacturing facility was up and running by the 1960s. That one multimillion-dollar decision determined how competitive the company would be in the ensuing decades to come. Or we see clients whose factories are thirty years old. A decision the C-suite made back in the late 1980s is still in action today, dictating how today’s executive team should spend millions of dollars in shareholder value.
And these are just the companies that survived. Plenty of their competitors made the wrong call, investing millions and millions of dollars in the wrong mills and plants, ultimately going bankrupt. They didn’t have the option to pivot.
With companies that revolve these types of capital expenditure decisions, executives don’t have room for error. They have to make the right investment call upfront. These executives utilize detailed processes and systems to try to arrive at the best course of action. Hundreds or, depending on the size of the company, sometimes thousands of people are part of the preparation, analyses, and decision-making processes. Despite this, a company’s “strategy” is often determined by emotion and personal agendas.
Here are just a few examples of long-term decision-making based on emotion, instead of factual data. One CEO we worked with at first refused to close a failing mill in Europe. Why? His summer cabin was nearby. If the mill closed, he’d be embarrassed in front of his summer neighbors. In the end, as always, economics won: The CEO left and the mill was shuttered.
In another instance, a CEO argued and fought against a number of site closures for quite some time before giving in. He didn’t want to consolidate three older sites into one new state-of-the-art facility that would outperform all three and vastly lower carbon emissions. His reason? There was less prestige in having one site instead of three.
Sometimes, the executive team doesn’t want to admit they made a bad decision. We remember the time that our analysis clearly showed one particular factory was a liability, costing the company precious cash flow to keep it running. Clearly, the C-suite needed to sell it off or close it altogether. The executives wouldn’t hear of it: They had just acquired the site two years before. Selling or closing it would clearly signal they’d made a bad decision. Instead of choosing what was best for the company, they wanted to choose what they thought was best for their reputations.
Another client was resolute in acquiring a company, despite the additional capacity not increasing company cash flow. Quite the opposite. When we privately asked the CEO why he was so committed to expanding—despite the numbers—he simply said, “Growth comes at a cost.” Yes, a high cost to the company’s shareholders and the overall business.
Often, it’s not a good decision or a bad one that hurts the company. It’s indecision. Some leaders procrastinate, too afraid of making the wrong decision…even when their entire team clearly sees the way forward. The lack of true leadership comes at a cost, as well.
Other times, the executive team has the will to do what’s best for the company, but local and national governments hinder the process, intimidating or even threatening companies over planned relocations or reallocations of production.
In the foreword of our book, Redesigning CapEx Strategy, Domtar CEO John Williams wrote, “Actually, a lot of capital allocation is based on emotion. It’s not fact-based. There are capex analyses, but those are seen as just a tool, if you will, as part of the decision-making process.”
How do companies address this problem? How can they remove the human element to arrive at a clear decision that maximizes cash flow?
To begin, they need to recognize that there’s a fundamental flaw in how companies evaluate their capital expenditures. Their systems analyze individual projects and facilities in isolation, leading to an “efficiency paradox”: Parts of the company’s production system are optimized at the expense of the company’s overall productivity. Plants are rarely given a role in the business’s context, and businesses cannot allocate capital wisely unless they have done that.
Capital expenditures are seen as individual investments—often with emotional attachments leading to arbitrary decisions—instead of using the capital budget to maximize sustainable company cash flow which is what shareholders really care about.
Fortunately, these anecdotes described above are the outliers. For the vast majority of our clients, once they go through a rigorous capex process from a holistic perspective, it becomes abundantly clear what the best course of action is for the company.
As John Williams puts it “With a capex strategy that accounts for each individual asset’s role as part of the asset network, there is no question as to the best path forward. It’s as plain as day.”
It’s time for clarity and transparency. No more piecemeal projects. No more analyzing mills and factories as standalone entities. No more obscurity and indecision. It’s time for clarity and transparency.
It’s time to redesign capex strategy.