Supply Chain Vector [Electronic resources] : Methods for Linking the Execution of Global Business Models With Financial Performance نسخه متنی

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Supply Chain Vector [Electronic resources] : Methods for Linking the Execution of Global Business Models With Financial Performance - نسخه متنی

Daniel L. Gardner

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Figure 10.3 reveals its links to strategic and tactical supply chain activities, profitability and asset utilization. The significance of the CFS to supply chains begins with the section on cash flow from operating activities. This section states cash flow generated as a result of net income, with a provision for adding back depreciation on assets.

With net income weighing in as the most important source of cash for an organization, inclusion of income statement results in the CFS emphasizes the significance of all activities related to sales, returns, cost of goods sold, general, sales and administrative expense and depreciation. Although a study of the functional relationships between the income statement and supply chain tactics is necessary, the very appearance of net income on the CFS must be recognized as a positive step toward synthesizing the need for growth and profitability with sources of financing and asset utilization.

Of equal importance, the section on cash flow from operating activities itemizes changes in short-term assets and liabilities, either as a source or use of cash (changes in working capital). This calculation is the ideal counterbalance for the net income figure as it considers not only reported profitability but also how well a company manages inventories, collects on receivables and pays it bills.

This concept carries implications for the effective management of global supply chains as net changes in working capital cast a long shadow over the aggregate cash flow figure. For example, if inventories increase from one period to the next, that is considered a use of cash, which in turn has a negative effect on cash flow. From a collections perspective, a decrease in accounts receivable is considered a source of cash and thus has a positive effect on cash flow. Conversely, a decrease in accounts payable between periods is considered a use of cash, again consuming funds.

The overall effect on cash flow from changes in working capital depends on whether the net figure is positive or negative. Basically, if the uses of cash exceed the sources, the effect on cash flow from working capital changes will be negative, having a direct impact on the amount of free cash flow available to the company. If the sources of cash exceed it uses, then, of course, the net figure will have a positive effect on company cash flow.

Without question, the comparison of reported profitability with changes in working capital speaks volumes about the operational effectiveness of an organization's supply chain activities. It must be kept in mind, however, that this section by itself only measures short-term performance and does not consider the importance of managing long-term assets.

Taken again from the viewpoint of sources and uses of cash, the CFS addresses the acquisition and/or sale of assets in the section on cash flow from investing activities. Study of this section should reveal both the strategic and financial consequences from the purchase or sale of big-ticket items like land, production facilities, machines and equipment, warehouses and truck fleets. In global environs, the buying and selling of fixed assets, as well as their overall productivity, are integral to organizational success and should be measured along with the performance of short-term assets.

For purposes of the CFS, sales of long-term assets are a source of cash and as such have a positive impact on overall cash flow. A common example of this is when a company sells a factory or physical plant, the proceeds of which are a substantial (albeit short-term) source of cash. In the opposite scenario, when an organization invests in fixed assets, this type of transaction is considered a use of cash and will have a negative effect on cash flow in the period being measured. Again, a company consumes cash over the period in question by investing in physical plant, equipment or land, with the long-term intent of creating future value for the organization.

While important from a sources and uses of cash flow perspective, a one-dimensional view of managing fixed assets discounts the strategic importance of analyzing this section of the CFS. Specifically, the CFS measures the short-term impact on cash but does not address the long-term effects on productivity and profitability of a company and its global operations. Therefore, an organization must not only look at the short-term net changes in cash as a result of asset management but also consider the strategic rationale behind decisions and their effect on the profitability of future periods.

At first glance, the final portion of the CFS may not appear to be closely associated with tactical SCM. Because the section on cash flow from financing activities deals with sources and uses of cash related to the financing of company activities, it might be reasonable to make this assumption. Some of the line items that appear as a use of cash in this seemingly "supply-chain-neutral" area include payment of dividends, repurchase of company stock (treasury stock) and the retirement of debt. Sources of cash, on the other hand, typically arise from the issuance of stock and bonds or as newly borrowed funds. Closer observation of this section, however, reveals that its relationship with supply chain execution is quite significant.

As noted earlier, the number one source of cash for an organization is net income, a figure that is ultimately driven by supply chain planning and execution. Net income is what perpetuates the viability of a company, allowing for reinvestment in its future, the retirement of debt and the distribution of dividends. Also, net income plays a key quantitative role in the determination of stock price and earnings per share and is the numerator in such calculations as return on investment and return on equity. When a company suffers from weak net income or even losses, the reciprocal nature of its relationship with supply chain operations and financing activities becomes abundantly clear.

What can happen to a company that executes poorly and has anemic net income? First, a paucity of earnings reduces the amount payable in dividends, a fact that may cause downward pressure on stock prices. Also, if a company is even moderately leveraged, the ability to pay down debt is reduced by the absence of net income. Without earnings to back up debt obligations, companies tend to resort to short-term tactics that invariably impact the long-term viability of the organization.

To illustrate this point, consider companies that postpone investments or divert funds earmarked for research and development, product development or employee training in order to cover debt payments. Budgeted investments in new plant or upgrades to existing equipment may be canceled just to meet short-term principal and interest obligations. In more dire circumstances, many companies begin to sell assets that are critical to their current and future business models.

The deep discounting of receivables, the sale of land, plant and equipment or even the wholesale divestiture of entire business units is not beyond the realm of options for companies that are strapped for cash. Needless to say, these tactics are short term in nature and will inevitably serve to create a cycle through which supply chain execution and income statement performance spiral downward.

On a more strategic level, a company can compensate for poor net income figures by issuing additional stock or assuming debt. In the case of the former, diluting of stock to pay debt is never an attractive proposition, particularly for current holders of the issue. With regard to the latter, lenders study two variables when negotiating a loan package: a company's ability and propensity to pay. For a company with limited earnings or losses, the cost of capital would increase due to the additional risk associated with the loan. This situation would worsen if the organization were already leveraged, making the likelihood of repayment lower and, again, the cost of capital higher.

In summary, the subtleties of the relationship between supply chain execution and the CFS components of operating, investing and financing activities can easily be overlooked or discounted as unrelated. The CFS provides a unique look into the activities of a company from contrasting angles and should be used to gauge both the importance of net income and how effective a company is at marshaling finances and productively employing assets. This additional dimension of SCM, along with the traditional analysis of the income statement and balance sheet, is pivotal to a vector approach to business management.

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