Using The Hidden Value In Your Capital Equipment

Today's manufacturers compete in a global environment with continued pressures on margins. Increasing productivity while maximizing value from capital equipment is a continuum for job shops and tool and die shops. This year alone, manufacturers are expected to purchase in excess of $6 billion in machine tool equipment.

From metalcutting to welding equipment, manufacturers are looking for new ways to manage their assets. In many cases, traditional financial models no longer support the needs of today's manufacturers.

Brave New World

Cost-of-ownership of capital equipment—including price, throughput, downtime, maintenance cost, training and spare parts—used to be sufficient for manufacturers in evaluating their equipment purchases. But with costs constantly increasing, company executives have to look elsewhere to optimize their return on investment. Many are supplementing cost-of-ownership measurements with asset management techniques.

Asset management should not be solely the responsibility of the chief financial officer. Engineering, marketing, purchasing and manufacturing management all should be involved: engineering and marketing because asset management requires knowledge of the company's technology track, new product development schedule and the life cycle of existing products; purchasing because it involves the acquisition of equipment; and manufacturing because it examines ways to improve productivity.

The asset management approach has five basic steps:

• Assessing needs,
• Funding equipment acquisitions,
• Improving the productivity of installed equipment,
• Migrating currently owned equipment, and
• Disposing of equipment.

The approach covers both new and used equipment. A well-formulated strategy reviews short- and long-term goals, optimizes current manufacturing, and combines an equipment turnover plan with flexible financing tools.

Asset management can be used to achieve corporate balance sheet, financial reporting, and income objectives. It can also act as a hedge against technology obsolescence. By properly managing assets, a company can better control its debt-to-equity ratio, meet outstanding loan covenants, improve cash flow and limit profit drops in down times.

Assessing Needs

An optimization model for manufacturing equipment strategy is often used to evaluate equipment and manufacturing operations to show if current assets are under-used or mismatched with present and future operations.

Too often, manufacturers faced with changing technology approach equipment procurement with the intention of fully depreciating the asset and running the machinery to the end of its productive life. This view, however, ignores many inherent liabilities and downside opportunity costs such as lost revenue, slower production and lower yields from using older equipment.

Here are some questions to help explore and ascertain asset management needs. These questions are applicable for manufacturers interested in optimizing the use and management of their assets:

• How are you currently tracking your capital assets?
• How does evolving manufacturing technology fit into your capital equipment strategy?
• How do you determine when an asset is no longer productive?
• What is your process for servicing and maintaining out-of-warranty equipment?
• How do you evaluate the economics of upgrading, refurbishing or disposing of your assets as opposed to replacement?
• Do you have a mechanism for determining if a surplus asset could be used at another site?
• What facilities do you have for storing and demonstrating your surplus assets?
• How do you promote and sell your surplus assets?
• How do you evaluate your lease versus purchase options for both new and used equipment?

An acquisition and finance strategy might show the need to upgrade existing equipment, perhaps acquire refurbished equipment to match current manufacturing operations to reach optimum efficiency, or decommissioning equipment while making new investments in current technology.

Funding Strategy

A competitive asset management strategy seeks finance options to match product production cycles and manage equipment obsolescence. All capital equipment purchases have to be financed, either by internal cash flow, leasing or with equity. Many companies have come to recognize that their real value lies in their product designs and marketing capability, not in their ownership of capital equipment, and therefore are reluctant to use their cash flow to buy "iron."

Leasing Equipment

Leasing or a sale-leaseback (see sidebar below) offers a company some significant benefits in managing its balance sheet and cash reserves. Since the equipment is owned by the lessor, leased equipment in many cases is not included on a company's balance sheet, therefore improving debt-to-equity ratios and an organization's general credit position.

Some leases offer purchase options that let companies acquire the equipment at the end of the lease. A purchase option provides a hedge, letting companies get what they need for the short term, while perhaps taking full ownership of an asset when long-term needs are more clearly established.

A variety of leasing options give manufacturers flexibility to control the turnover and cost of their equipment acquisition. Manufacturing companies can respond to capacity upswings by quickly acquiring machine tool equipment when and where it is needed. Should demand shift, investments in equipment can be matched against the ups and downs of production requirements.

Refinancing Current Debt

Refinancing current debt is another way companies can uncover hidden equity in assets. Manufacturers can consolidate existing equipment loans into one transaction with one monthly payment. Refinancing allows for improved cash flow and lower financing costs. In addition, the current equipment value may exceed the remaining debt on an existing loan, allowing an increase in the available amount to borrow.

GE Capital, for example, operates refurbishment centers and warehouses in multiple locations for its inventory. In addition to offering financing for its used equipment, it also offers performance guarantees, installation and warranty packages as part of its total asset management services. This makes refurbished equipment a viable option for many companies.

Improving Productivity

A competitive asset strategy will also call for manufacturers to maximize the capital value of their existing equipment throughout the life of the asset (see figure below). This may include refurbishments or upgrades to equipment currently being used in production along with service on equipment that is no longer under warranty.

Manufacturers often lack in-house capabilities, or they may choose to outsource equipment service for cost savings. Many manufacturers rely on several service providers throughout the life of the asset or incur the costs of in-house service capability. However, some asset management groups offer their customers a full service organization that can provide out-of-warranty service, equipment upgrades and refurbishment.

Migrating Equipment

Not all expansions or upgrades require a wholesale tradeout of manufacturing and assembly equipment. Another solution may be to work refurbished equipment into manufacturing capacity. In fact, some companies' expansion plans require that "new" manufacturing match older but still productive technology.

Migrating equipment also helps companies with multiple manufacturing facilities. The ability to move equipment from site to site enables manufacturers to meet the ever-changing dynamics of production contracts. A "new" production line can be created through the migration of already owned equipment.

Disposing Of Equipment

Finally, a full asset management approach includes relocation, trading out or decommissioning manufacturing assets. Companies may also be faced with non-producing assets as the result of consolidations, acquisitions and end-of-lease requirements. An equipment disposition strategy allows the company to free capital for new equipment, improve profitability and enhance their balance sheet.

Companies that provide comprehensive remarketing services can help companies with the sale of a single piece of equipment or the orderly liquidations of an entire plant. A strategic re-marketing program provides companies with a quick and efficient sale of surplus machinery.

The challenge for today's manufacturer is to create a capital equipment acquisition strategy that balances production needs with new technology for the future. Using the tools for asset management—matching capital equipment, production capacity and flexible financing—lets companies strike this balance to solidify their market success and spur business growth. MMS

About the author: Brian Runkle is project manager of strategic marketing for GE Capital Commercial Equipment Financing.

For information on asset management, contact GE Capital Commercial Equipment Financing at (203) 796-1395 or fax: (203) 796-1324, or visit GE Capital's Showroom.