BOSTON (Reuters) - The brutal recession has made it increasingly difficult for corporate executives to forecast cash flow, a problem that could contribute to a surge in bankruptcies in the face of weak credit markets.
About 80 percent of the 1,000 largest global companies are unable to forecast cash flow over the next quarter within a 5 percent range of their actual performance, according to a study by Hackett Group Inc (HCKT.O) unit REL.
While investors tend to focus on whether a company hits its earnings and revenue targets — and typically punish the shares of companies that miss those predictions — accurately forecasting cash flow can be an even more important exercise, said Michel Janssen, chief research officer at Hackett, a consulting and research company.
“You can only run out of cash once,” Janssen said. “You can lose money, but as long as you can dip into other people’s cash, it’s OK. But once you run out of cash you’re going to hit the bankruptcy cycle.”
U.S. bankruptcy filings have been on the rise over the past year, with companies including auto parts maker Lear Corp LEAR.PK, apparel retailer Eddie Bauer Holdings Inc EBHIQ.PK and theme park operator Six Flags Inc SIXFQ.OB seeking court protection.
In an environment where lenders are taking a more conservative stance and wary investors have less appetite for commercial paper and short-term instruments that companies relied on to raise money to cover immediate bills, managing cash flow has become a critically important skill, the study said.
“The pressure on the cash part of the equation is unique to this cycle,” Janssen said. “Before, if you were off in your cash, you could have your treasurer make it up by dipping into a line of credit or other cash pools. In this cycle ... that assumption may not be true.”
The study highlighted Dutch consumer electronics maker Philips Electronics (PHG.AS) as a company that has excelled in its forecasting accuracy, in part because executives’ bonuses are tied to whether they meet their cash-flow targets.
Philips is part of a small segment of major corporations that tie compensation to cash flow, the study found. Just 20 percent of the 1,000 largest companies worldwide track the accuracy of their cash-flow forecasts, and only 15 percent link executives’ pay to the accuracy of those forecasts.
Janssen said his anecdotal research shows more companies are expressing interest in linking bonuses to cash flow, rather than just sales — an approach that helps to drive growth but can tempt people to pursue unprofitable sales.
Executives at companies including corporate jet maker Textron Inc (TXT.N), satellite-radio provider Sirius XM Radio (SIRI.O) and home builder KB Home (KBH.N) have said they are tracking cash more closely in the downturn.
Cash flow problems tend to wash across an industry, the study found. Lear’s bankruptcy filing, for instance, followed those of Detroit automakers General Motors Corp GMGMQ.PK and Chrysler LLC, the most prominent victims of a sector-wide slump.
Companies that are trying to protect their own cash flow may begin to delay payments to their suppliers, which in turn can cause those suppliers to have trouble meeting their own financial obligations.
“As we get deeper into the recession, the weak get more and more stressed,” said Janssen. “One man’s policy of conserving cash causes ripples down the road.”
Reporting by Scott Malone, editing by Matthew Lewis