Compliance as a Competitive Advantage

Avoidable.

As you may be aware, the Government's Financial Crisis Inquiry Commission reported yesterday that the “Great Recession” of the last several years could have been avoided if it were not for financial institutions, investors, and regulators not complying with the law (or common sense).

Now, there are those who argue that all laws were complied with (after all, almost no one has gone to jail).

• If true, then why did the economy go into free fall for so long? (Maybe the rules were “bad”?)

• Perhaps the rules were good but no one noticed that they were being ignored until it was almost too late? (Asleep at the switch syndrome?)

• Once problems were detected, the solutions from our leaders exacerbated the problem? (Throw the rascals out.)

• All of the above. (The perfect storm.)

Looking forward in 2011, another word comes to mind: “compliance.”

To most, compliance is boring, but it has one advantage: Everyone believes in it, even if they do not practice it. Still, the issue is what to comply with so that a company can maintain or enhance its ability to compete. Since we are a capitalistic society, companies wish to comply only with rules that generate rewards. Yet, great rewards go hand-in-hand with great risks. Anyone who tells you different is selling something (see the 2008/2009 economic results).

Here are some areas where compliance can make a difference:

• Customers: Contrary to popular opinion, it is not a company's organization that generates sales; it is the customers that generate sales. You expect them to buy “stuff” at prices set by you (hopefully) so that cash in is greater than cash out. Included in this simple equation is the expectation that cash in from the customer will actually occur, as most customers pay only after goods are received. If customers cannot comply with a set of credit requirements, then future liquidity will be impaired even if current period profitability occurs (e.g., bad debt).

• Sales: Your customers expect you to comply with stated (sometimes unstated) expectations concerning your product or service. Meeting their expectations makes them buy more of your product versus the competition and avoids bad news, which can go viral in today's interconnected markets. Most companies have enough stats in this area, but relating them to other parts of the organization can be helpful. Sometimes NOT selling the same old thing will help. Example: borrowing to build products nobody buys.

• Debt: Bankers expect their customers to comply with their debt agreements. (OK, so the bankers do not comply with theirs, but that is another story.) Failure to comply can trigger catastrophic events of default at worse or require a company to pay more for its debt and/or seek amendments, waivers, etc. It is best to know about compliance before default happens rather than afterward. A solution: better forecasting and deep knowledge of all of your debt covenants.

• Cash Management: Having “enough” cash on hand allows you to comply with your vendors' terms. It keeps them happy and your business full of inventory. A set of metrics about this vital source of liquidity (number of days cash on hand?) would be helpful.

• Investments: Staying competitive requires investments in new products, modern plants and equipment, etc. Not complying with expected business norms can reduce internal cash flows and shut off access to external cash sources (i.e., capital markets). A solution: Understand your operating cash flow drivers to learn whether they are providing enough cash for your next investment (e.g., free cash flow). If your company cannot generate enough, then why would others want to and take a risk that you cannot comply with their expectations of return?

If you have other examples where compliance can be actually be a good thing, the Internet is open for your comments. ###

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