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Cash & Working Capital

The Incredible Hulk-Bruce Banner Nature of Life Sciences

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July 19, 2019

Treasurers grapple with capital allocation issues as cash flows wax and wane with drug approvals, expiring patents and other ups and downs. 

Incredible hulkThere’s nothing like dramatic stock price moves to illustrate the feast or famine nature of revenue and cash flow at life sciences companies that live or die by the success or failure of clinical trials for drugs or devices. To kick off a discussion on how this binary reality affects financial strategy, one Life Sciences Treasurers’ Peer Group member showed his peers a chart of his company’s stock dropping fast from the upper left to the lower right.

Hulk or Bruce Banner? The first-hand account of this company’s binary bind sparked a wide-ranging discussion about the challenges of capital allocation and structure at companies that one day resemble the Incredible Hulk (successful drugs coming out of the pipeline, fast growth, high margins) and then revert to being a not-so-incredible Bruce Banner (drugs going off patent, sluggish pipelines, flat revenues)—and back again.

The bottom line. As part of financial policy and planning, life sciences companies need to account for this duality and then structure their R&D spending, liability towers and other capital allocation decisions around these inevitable boom-or-bust periods. Their financial structures must be resilient in the face of binary events.

KPIs to model capital planning and allocation. Given the binary contingency reality and potential growth volatility, the presenting member asked his peers for key performance indicators (KPIs) or a quantitative framework to guide capital planning and allocation decisions. While some CFOs like to manage capital planning and collaboration by feel or instinct, having tangible triggers can help ensure everyone is aligned. One member’s CFO is a fan of economic value-added (EVA), for example.

The Rubik’s Cube approach. Several treasurers suggested their capital planning and allocation decisions are akin to twisting a Rubik’s Cube with some of the colored panels already set. For example, the leverage ratio may need to remain at no more than 3x or there may be a promise to continue increasing the dividend each quarter. But then the other rows can be turned to line up the colors. Try starting with what is sacrosanct and working back.

The working capital calculus. Life sciences companies facing periods of flat growth have a heightened need to manage their working capital efficiently. No wonder several members cited improving working capital management and effectiveness as top priorities before the meeting. As part of the move to cut costs and increase efficiency, one member mentioned moving operations and personnel to a city in the South where costs are lower than on the West Coast. And it’s another reason more members want to exploit robotic process automation (RPA) solutions to eliminate as many manual processes as possible. Having technology in place to scale when Hulk-like growth returns—without adding permanent fixed costs—is also a driver. 

Adjust payment schedules. Life sciences companies have some additional challenges with working capital because, for example, cash is not always generated where it is needed and public sector entities tend to pay on a much different (longer) cycle than those in the private sector. Enjoying long cycles of high-margin sales that lead to becoming cash-rich, life sciences finance functions may not have an easy time creating a cash or working capital-driven culture where payables does not automatically pay every big invoice as soon as it comes in the door. Solving these working capital challenges is of paramount importance for one guest member, who said the company’s CFO wants to use treasury to run working capital efforts for the whole company.  

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