For CEOs, the first response to a cash-flow shock is often straightforward. The harder question is how long the balance sheet can absorb it.
In a survey of 321 U.S. CEOsin early July, respondents were asked how they would respond to a one-time unexpected change in cash flow—up or down—equal to 5 percent, 10percentor 20 percent of annual revenue, randomly assigned. The scenariodidn’treflect any real change in performance. It was a test of instinct.
The question may have been hypothetical, but the importance ofunderstandingthis vital, under-studied leadership behavior is not. The implications for any given business areuseful, of course. But more important is the potential impact on the broader economy if—aswe’veseen in periods like Covid and thefinancial crisisof 2008-9—corporate leaders face acrunchen-masse.
Damjan Pfajfar, who leads the Center for Inflation Research at the Federal Reserve Bank of Cleveland, says the shortfall scenario helps show which levers companies would pull when cash tightens—whether they draw down reserves, reduce spending, slow debt repayment or turn to borrowing. “This data provides useful information about the margins of adjustments and the role of the financial sector in smoothing short-term shocks,”he said in a statement provided to Chief Executive Group Research last week, ahead of a Fed blackout period.
Ownership Matters
The biggest surprise: How central a company’s ownership typeis to how their CEOs would respond to upside and downside hits to cash. Itisn’talways in the directionyou’dexpect.
Non-profits, for instance,are the most growth-oriented companies in the survey.Those CEOs would send 52 percent of a windfall to workforce spending and business investment combined, more than any other ownership type. They would also absorb 59 percent of a shortfall through reductions to those same two categories. That may reflect the absence of shareholder distributions, leaving more of the adjustment to fall on operations rather than payouts or debt.
Public companies sit at the other end. Those CEOs would send 54 percent of a windfall to reserves and debt, the most of any ownership type. None of the public-company CEOs surveyed say they would borrow after a windfall, and 15 percent would borrow to cover a shortfall, below the survey average.
Private-equity-backed companies might be expected to move more aggressively with unexpected cash, but surveyed CEOs say they wouldallocate31 percent of a windfall to workforce spending and business investment, in line with several other ownership types. Where they do stand apart is on the downside: PE-backed companies would cut distributions to owners by just 5 percent of a shortfall, the least of any ownership type, while family-owned companies, partnerships and sole proprietorships would cut distributions far more, by 22 percent on average across all three.
Big Picture
Overall,underthe two scenarios we outlined for participants:
Given more cash, CEOs say they would directnearly halfof it—46 percent—to cash reserves and debt repaymentand sendroughly athird—32 percent—towardbusiness investment and workforce spending.
Given less cash, theywouldn’tprotect one thing at the expense of everything else.They would absorb the shortfall througha roughly evenreduction of cash reserves, businessinvestmentand workforce spending—while reducing debt repayment least of all, just 8 percent, making it the one lever CEOs appear most likely to protect in either direction.
The allocation pattern points to balance. CEOs would spread the shock across several levers rather than rely on a single response, especially when cash falls short.
“In either scenario, my approach would be to balance immediate cash discipline with long-term sustainability,” saidMaurice Ware,president and CEOofKenneth Young Center,a provider of behavioral health and older adult services, whoparticipatedin the study.“The goal would be to protect the mission, stabilize operations, invest where there is measurable return and avoid decisions that solve a short-term issue while creating a larger structural problem later.”
Liquidity IsTheDividing Line
Sentiment plays a role in thisallocationdecision: CEOs forecasting a recession or economic slowdown in the coming months say they wouldallocate52 percent of a windfalltoreserves and debt repayment, compared with 44 percent among those expecting economic growth.
That defensive instinct matterseven morewhen the cushion is thin.Roughlyaquarter of the CEOs surveyed have three months or less of operating runwaythrough current cash and available credit lines, making liquidity one of the clearest dividing lines in how CEOs would respond to a shortfall.
With a cash windfall, CEOs with three months or less of operating cushion would send 61 percent of the unexpected cash to reserves and debt repayment. Those with more of a cushion—four to six months, seven to 12 months, more than a year—wouldallocatecloser to 38 to 45 percent to those same uses.
Debt reduction accounts for much of the gap. Thin-cushion CEOs would direct 33 percent of a windfall toward repayment,roughly twicethe share among CEOs with seven or more months of liquidity.
Facing a shortfall instead,those with thinner cushions would absorbroughly one-quarterofitthrough reduced workforce spending, versus 15 percent among those with more than a year of runway. And 43 percent of thin-cushion CEOs saythey’dborrow to cover the gap, compared with just 8 percent of the most liquid companies.
One CEO tied that liquidity discipline directly to operating flexibility:“We would use a cash-flow windfall to strengthen growth capacity, but not at the expense of liquidity. For our business, the biggest constraint is not demand alone; it is the ability to carry the right inventory, protect product quality, supportdealersand manage input-cost volatility without overextending.”
BorrowingAsALast Resort
CEOs are far more reluctant to add borrowing when cash increases than when cash falls short.Just 10 percent would increase borrowing after an unexpected cash increase; those whowould maysee the extra cash as support for a larger investment or growth opportunity.
More than double that share—22 percent—would increase borrowing after a decrease, and the figure climbs with the size of the shock: 17 percent facing a 5 percent shortfall, 22 percent facing a 10 percent shortfall and 28 percent facing a 20 percent shortfall.
Even then, borrowingremainsa minority response. More than 70 percent would absorb the hit through other levers rather than add debt.
Company sizehelps shapethe response.Companies with $250 million to $499.9 million in revenuearethe least likely to borrow to cover a shortfall, at 5 percent, while alsoallocatingthe largest share of a windfall to workforce spending and business investment, at 36 percent.
By contrast,CEOs atcompanies with$1 billionor more in revenueare more defensive, directing 48 percent of a windfall to reserves and debt repayment; 11 percent say they would borrow to cover a shortfall.
“I prefer my companyisasset heavy / cash heavy,” said James Loftis, Jr., CEO of Loftis/Robbins, a machining manufacturer in Alabama. “I only borrow money based on two scenarios: opportunity and debt recovery calculations.”
