More companies go under because of cash flow issues, rather than declining profitability. Hence traditional prudence always suggests that a firm should have sufficient cash to cover its immediate liabilities. However there is a growing breed of FMCG companies that claim otherwise.
Unlike most other industries, the turnover of a FMCG company is not limited by its ability to produce, but its ability to sell. Hence they concentrate their resources on marketing and either outsource their manufacturing or make a limited investment (as compared to their turnover) in plant and machinery. Therefore there is a limited room to raise funds by mortgaging the plant and machinery. The developments in SCM, ERP and implementation of JIT have made the firms leaner and hence now it’s not possible to raise substantial funds via inventories. Typically a firm pledges its plant, machinery or inventory to raise the bank loan/overdraft required to fund its operation. Realizing these limitations, many companies (esp. Dell and Dabur) starting using their negotiating powers over their customers and suppliers to fund their expansion in operations.
Even if a firm has a healthy profit margin of 20% (Dabur has 18%) a firm needs to make an investment of 80/- to increase its revenue by 100/-. After taking into consideration the uncertainty associated with any new product launch or expansion plan, there is always a limit to the operating leverage that firm can go to before its bankers start feeling jittery. This pushes most companies into a vicious circle. They cannot exploit the market opportunity fully and increase their revenues because they do not have sufficient cash. They do not have sufficient cash because their revenues are small. However by having negative working capital, these FMCG companies are literally forcing their suppliers and customers to fund their operations. Hence breaking away from this vicious circle and gaining the ability of unrestrained growth.