Life Cycle Perspectives on Managing Capital Expenditures
September 24, 2010 § Leave a comment
By George Daniels and Doug Brockway
The key questions of need and by when are central to the allocation of capital dollars. Does the business in fact need this resource? Is there an alternative or better way to get to the needed result in the time window required?
A perfectly tuned business will spend money on resources and capabilities when in the right amount and at the right time. They will not have capital, people, plants, facilities, or technology idle in anticipation of a new business not yet launched.
All too often expenditure requests are poorly or incorrectly defined or timed. Need as a core and critical element of analysis is too easily dismissed by many as non-essential. Timing is frequently “yesterday” – in reality, too early or too late. Even when evaluating legitimate or reasonable expenditures, no business continuously fires on all cylinders – sequence and timing are rarely perfect. Good management must continuously tune their decision making processes.
Life cycle analysis and methodology is most powerful when evaluating the timing of capital expenditures. Products and services each have their own interconnected market life cycles and must be managed as such. As a given market matures, the next market ramps up, with its own four life cycle stages, and well running businesses are ready to participate. The chart below illustrates this process.
During the Embryonic phase, the business makes preparatory investments. These involve getting the production processes defined, establishing the skills and resources needed for support, testing marketing and sales value propositions, offers and approaches.
In the Growth phase, the business is aggressively garnering market share. As this phase matures, life cycle savvy companies begin preparing their next offering.
The Mature phase requires a different management style to closely manage and nurture incremental opportunities through improved cost structures and revenue optimization. Organizations must be careful not to miss significant late revenue opportunities (e.g. plastic handcuffs) but must avoid long term capital expenditures in a failing market (e.g. non-HDTV).
During the final (Obsolete), phase existing customers are appreciated, but encouraged to move to the new offering. At this point, a decision to exit is often made and no additional expenditures committed to marketing or sales efforts.
A properly managed life cycle methodology generates maximum profitability. Yet, profitability can be less than optimal if a product is brought to market too early or too late. Too early creates idle resources, unrecoverable costs as well as lost opportunity cost due to the underutilized resources. Offerings brought to market too late show phantom initial cash savings early because investments were made when as margins were declining and the product was becoming a commodity.
As the business tries to play market catch up, the same investments are made late and often at a premium and with inefficiency. Those who dominate market share garnered it during the late Embryonic or early Growth phases. Consequently, late comers have fewer pickings as the really profitable customers are no longer available. The remaining customers bring in much needed revenue, but at a cost, with depressed profitability.
What Management Should Do
The fundamental requirement is to establish a life cycle baseline by product/service offering. This includes evaluating external life cycles: the market, competitive offerings, regulatory changes, and the underlying technologies driving the market. With this picture, management has a framework to determine if internal resources, expenditures, processes, infrastructure and products/services are in alignment with the needs and timing of the markets.
In terms of Capital Expenditures, the required timing of new products and services adds critical information to the approval and allocation decision process. This incremental, yet valuable, information is used to determine the ‘right’ programs to generate long-term, sustained success.
· Capital spent too early
 Assumes no early production build