CAPEX Deferred Eventually Makes the Company Sick

September 22, 2014
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Wall Street analysts keep waiting for companies to spend money upgrading their infrastructures, but they shouldn’t hold their collective breath.  Instead of investments in IT, machinery, buildings and more, CEOs and CFOs are content to predominantly spend cash on stock buy-backs and/or dividends.  Deferring CAPEX spend, or “sweating the assets” will work for a little while, but it’s not a strategy for long-term success.

Poor Los Angeles. Decades of not spending enough money to upgrade infrastructures is really catching up with the city.

According to a New York Times article, “Infrastructure Cracks as Los Angeles Defers Repairs”, there’s a real breakdown happening with the public works infrastructure in Los Angeles. Take for example, massive flooding when a 90 year old water main broke outside of UCLA, flooding the campus with 10-20 million gallons of water and leading to millions in damages.

Deferring necessary upgrades and repairs is costing Los Angeles.  The New York Times article mentions; “With each day…another accident illustrates the cost of deferred maintenance on public works, while offering a frustrating reminder to this cash-strained municipality of the daunting task it faces in dealing with the estimated $8.1 billion it would take to do the necessary repairs.”

In the same manner, since 2012 companies have clamped CAPEX spending for their own infrastructures, instead choosing to spend cash on stock buybacks, or plain just hoarding cash on the balance sheet.  Granted, some of these monies are locked up off-shore, and cannot be repatriated without significant tax hits, but for now, companies are choosing not to spend much on upgrading their own infrastructure.

In terms of information technology, deferring upgrade expenditures has the following implications:

  • Big data are only getting bigger
  • Moore’s Law’s keeps marching on, but some companies are using IT equipment that may be long past its depreciation cycle.
  • Software advancements continue
  • SLAs demanded by business units are in jeopardy of not being met

Perhaps the slowdown for IT CAPEX has something to do with the rise of cloud computing. After all, Amazon’s cloud business has turned into a $2 billion or more business. That said, survey after survey still shows reluctance for companies to move everything to the cloud, so perhaps there’s more to the story.

The constant deferral of CAPEX has the real potential to make your company sick. Investments in computers, machines, plants, equipment, buildings and more are the backbone of a company. When CAPEX is intentionally constrained in favor of parking cash for a rainy day or buying back stock (at already high prices), much needed upgrades are deferred.  

Worse, constant deferrals of capital upgrades are like a “hidden tax” in that by not spending cash on upgrading creaking systems and infrastructure, it’s highly likely something much worse can happen down the road (i.e. the millions extra Los Angeles has to spend just to clean up the messes resulting from infrastructure failures).

Getting back to Los Angeles and their years of infrastructure spend deferral, Donald Shoup, a professor of urban planning at UCLA says; “It’s part of a pattern of failing to provide for the future.” 

The problem is quite clear. Investments in CAPEX can only be delayed so long. Eventually, failure to spend means missed growth opportunities, frustrated customers, irritated employees, and exposure to much more downside risk if things “blow up” from trying to get by just one more quarter with aging infrastructure. Eventually, the piper needs to be paid. And when he finally gets paid, he usually asks for double.