The article is adapted fromthe new book "Redesigning Capex Strategy: A Groundbreaking Systems Approach to Sustainably Maximize Company Cash Flow" by Fredrik Weissenrieder and Daniel Lindén, pages 69–72, published by McGraw Hill, September 2022.
The Nobel Memorial Prize-winning economist Paul Samuelson wrote, “Economics is a choice between alternatives all the time. Those are the trade- offs.”
Value is either created or destroyed by those decisions. It isn’t until later that it becomes apparent whether they are the right ones or not. Regardless, it’s at the decision point that value is essentially created or destroyed. What happens afterward is merely the consequence of that decision.
In manufacturing companies, resource allocation is capital allocation. Virtually everything that happens, from doing your best to improve sales and marketing to human resources and IT, is a consequence of a handful of strategic decisions. If leadership makes the right strategic decisions, the company will create economic value for the shareholders. If they don’t, they will destroy shareholder value by way of wasting company capital.
Upgrading to new enterprise resource management software might help a company become more efficient. Funding a substantial culture initiative might help employees become more effective. Automating quality control might improve operations. These actions are important, to be sure; they’re necessary in order to survive. But these activities do not create economic value in manufacturing companies; they save or rescue economic value (made from previous decisions) that otherwise would have been destroyed.
All companies must manage large strategic decisions made in the past (such as a site for a new facility) in the best possible way. They will always work on improving things—or rather, stopping things from eroding—but starting from where? From the starting level when the strategic decision of building the site was made.
Again, value is created or destroyed when the larger strategic decision is made. Everything after that is just making the best of it all. We don’t mean to diminish the effort it takes to do that. We’re merely pointing out that value comes from a strategic decision, not from the millions of tasks that come after it. Those subsequent efforts very rarely—you could even say never—create new value.
When they made the strategic decision, the original decision-makers assumed that their predecessors would put forth their best efforts. They had already factored that into their decision-making process. They assumed that the managers who came after them would continually improve the site, so those improvements do not add value—they maintain the original value.
No matter how efficient a manufacturing company is, the tactical-level decisions made after the larger strategic decision cannot compensate for the macroeconomic forces at play. A manufacturing company (or any company, for that matter) can’t “cost save” its way to success. If a CEO says, “We’ll cut fixed costs by 5%,” it might be good news, but it does not change the direction or value of the company. The company is just doing what all its peers are doing: what is expected from them. In fact, if companies have 5% of “fat” they can take out, they may be behind their peers. Why do they have that much to cut in the first place? Shareholders expect their company’s management to hold costs at an optimal level. What else would the company be doing, if not aiming for the best and most sustainable margins? An announcement like this is as newsworthy as the CEO declaring that the company is striving to make a higher profit. Every one of their competitors is trying to lower fixed costs. None of those efforts create shareholder value, but they may reveal a historic pattern of destroying it.
A manufacturing company can’t sell more to reach success either because that is expected from all the players in an industry. It must create economic value at least as well as its competitors to survive. Its ability to create economic value was set many years before, when leadership chose to allocate capital in a certain way. Leadership picked a game out of the playbook, and the company’s managers today are faced with playing it the best way they know how.
In virtually every organization, leadership’s most important job is often creating resilience for hard-to-predict, long-term macroeconomic changes. Leadership must spend its time designing the future company via a highly organized, holistic process. That is not being done in companies today because they are relying on an incorrectly designed, purely tactical capex allocation process to do so.
Companies that succeed in the long term are managed by leaders whose capital allocation decisions consistently generate net value creation on the whole. (All companies make both value-creating and value-destroying decisions. It’s a question of which ones outweigh the others.) Companies that fail are those that spend most of their capex budget ineffectively.
Fredrik Weissenrieder, co-author of "Redesigning Capex Strategy" is the founder and CEO of Weissenrieder & Co., a global capex strategy consultancy and tech company, based in Sweden. In 1994, he developed a fundamentally different approach to industrial capital allocation and is today a recognized global leader on the topic.Daniel Lindén, co-author of "Redesigning Capex Strategy" is the COO of Weissenrieder & Co. Since 1999 he has helped refine Weissenrider’s groundbreaking approach to industrial capital allocation. He oversees the company’s consulting teams as well as the team developing the consultancy’s SaaS service Weissr® Capex, the world’s first application integrating capex budgeting, management, and strategy.