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By Steve Lyman, Grant Thornton LLP | 04/29/2009
In order to maintain current or historic levels of profitability in an environment characterized by decreasing demand and increasing commodity prices, food companies must cut costs and spending wherever possible.
Escalating costs will cause margin compression and in turn put pressure on liquidity. Tough economic conditions require a razor-sharp focus on both cost containment and cost cutting strategies. A backup plan for capital sources must be integrated into the plan.
We are counseling food companies to employ zero-based budgeting to review all costs very carefully in terms of their value to the business. What costs do you actually need to run the business? Conduct relative risk and benchmarking analyses against competitors in the industry, and look for ways to improve performance. Reduce spending as much as possible, and hold managers accountable for all expenditures and cash outflows. Institute cost justification and baseline investment returns on new projects.
It is critical to understand your fixed and variable costs and any outstanding liabilities not reflected on your balance sheet (e.g., operating leases, rents, performance contracts) and find opportunities for reducing costs. Pay close attention to variable costs, and completely reconsider any capital expenditure decisions. Institute policies that encourage and reward cost savings and cash conservation. Talk directly to employees at every level, not just your management team. Validate all significant assumptions you’ve made about your business, your competitors and the industry.
At the core of cost containment is to understand all your options for funding your food operation. Start with your incumbent lender, and consider alternative ways of structuring your current credit facility (e.g., term debt versus line of credit). Understand default provisions in your current borrowing agreements.
Based on your size and location, understand who the alternative local, regional and national senior lenders might be for your business. Also consider other types of secured financing sources, such as leasing, asset-based lenders and factoring companies. In some locations, state and local government-supported financing programs might be available.
Other types of outside financing include subordinated debt, private equity and venture capital. These funding sources are generally longer in duration and often take more time to arrange. If you have enough time and flexibility, these sources can help improve your capital structure over a longer period of time.
Also, don’t forget about creative ways of accessing cash that might be tied up in the business, such as shortening your working capital cycle. Look at negotiating payments on long-overdue accounts receivable, or obtain financing through your trade vendors. Consider sales leasebacks on real estate to generate cash. In some industries, you might be able to ask for and receive adequate or progress payments from your customers.
Do not automatically assume that your current lending relationships are going to stay in place. Avoid being in the position of not understanding your alternatives if you are forced to end your relationship with your bank, lender or other investors. Court other sources of capital, just in case. Don’t be left without a contingency plan, and don’t overstretch yourself.
Finally, carefully consider a major area of cost: people. Make tough decisions now. Don’t allow emotion to rule your decision-making. Use objective criteria to ensure that decisions are made in the best interest of the business and not based on personal relationships. Communicate well, retain integrity throughout the process, but move quickly. Instill confidence in your decisions and motivate those who are left.
Don’t automatically cut marketing expenses. While this is traditionally seen as an easy target, doing so can have a significant impact on your competitive position, particularly when market conditions pick up. There’s a lot of business out there and, in a slowing economy, it becomes a matter of having to try harder to grab share.
Think about your business and, more importantly, your strategy. Cost-cutting initiatives cannot be undertaken at the risk of diminishing value.
Steve Lyman is a partner in Advisory Services for Grant Thornton LLP and the leader of the Atlanta office of Consumer & Industrial Products practice, with heavy emphasis on the food & beverage industry. He can be reached by phone at 404-475-0053 direct or via e-mail at email@example.com.