In his book “The Shoe Dog”, Phil Knight, the founder of Nike told an incredible story. Nike’s bank pulled the rug from under their feet. Not just they freezed their accounts because of delayed loan repayments, they as well filed a case against them with FBI doubting that Nike was cooking books. Nike’s Japanese financier who too were receiving delayed repayments from Nike, wanted a meeting with the bank, after auditing Nike’s finances in detail.
So Phil Nike’s founder, the Japanese financer and the bank rep met. Here is the scene described in verbatim from the book:
Holland, representing Nike’s Bank, who refused to give further loan to Nike.
Phil Knight, The Nike’s founder, The “I” in the paragraph.
Ito, representing Nissho, Nike’s Japanese guarantor & financier.
Blue Ribbon, Nike’s name at that time.
“Holland came out. He shook Ito’s hand. He nodded to me and Hayes and led us into the conference room in the back, the same conference room where he’d lowered the boom days before. Holland said we were going to be joined by a Mr. So-and-So and a Mr. Such-and-Such. We all sat in silence and waited for Holland’s cohorts to be released from whatever crypt they were kept in. Finally they arrived and sat on either side of him. No one was sure who should start. It was the ultimate high-stakes game. Only aces or better.
Ito touched his chin and decided he would open. Right away he went all in. All. Fucking. In. “Gentlemen,” he said, though he was speaking only to Holland, “it is my understanding that you refuse to handle Blue Ribbon’s account any longer?” Holland nodded. “Yes, that’s right, Mr. Ito.” “In that case,” Ito said, “Nissho would like to pay off the debt of Blue Ribbon — in full.” Holland stared. “The full . . . ?” Ito grunted. I glowered at Holland. I wanted to say, That’s Japanese for: Did I stutter? “Yes,” Ito said. “What is the number?” Holland wrote a number on his pad and slid the paper toward Ito, who glanced quickly down. “Yes,” Ito said. “That is what your people have already told my people. And so.”
He opened his briefcase, removed an envelope, and slid it across the table at Holland. “Here is a check for the full amount.” “It will be deposited first thing in the morning,” Holland said. “It will be deposited first thing today!” Ito said. Holland stammered. “Okay, right, today.” The cohorts looked bewildered, terrified. Ito swiveled in his chair, took them all in with a subzero gaze. “There is one more thing,” he said. “I believe your bank has been negotiating in San Francisco to become one of Nissho’s banks?” “That’s right,” Holland said. “Ah. I must tell you that it will be a waste of your time to pursue those negotiations any further.” “Are you sure?” Holland asked. “I am quite sure.” ……
Now this is what partnership is!!! Fighting for your partner, paying his bills and then breaking ties with the one who fought your partner!!!! Was it a simple bromance between Ito and Phil that made Ito pay Nike’s cheque and break the ties with bank or was it about business?? It was totally business decision…..no place for bromance. Let’s see how.
At that time Nike was growing at the rate of about 100% per annum i.e. sales doubling every year. But they were not able to pay in time to their creditors!! How can that happen? Were Nike selling shoes at a loss? Where they spending too much on other things like advertising that they were not paying in time to their suppliers and banks?? Actually they were selling every shoe with a good profit margin but still were facing the issue of repayment? How can that happen.
The answer is “cash flow”. Let’s see what it is and then see how does the cash flow looks like for a company that is growing at an insane rate.
Imagine you sold products worth $1 million this year and you know that you have demand of $ 2 million next year. What would you do? You buy machines and factory space of say $ 0.5 million, just to ensure that you are ready for next year’s $ 2 million sales. I need to pay my day to day bills of about $ 0.8 million of this year. (my raw materials, my employee salaries and my electricity bills etc). Thus this year I did a sales of $ 1 million, made $0.2 M profit but have expense of $ 1.3 million. I am selling my products profitably, but preparing myself for future expenses is making me take loans and is making it much difficult for me to repay my bank loans as well as supplier credit. This is the problem of every growing company!! I need a free cash of ( $ 0.3 M) (1.3 M ~ 1 M) just to ensure that I remain afloat.
There is another problem of lack of working capital for companies. Let’s see what is meant by that. Imagine that I sell products to my supplier and I make payment in 15 days. And on the other hand I sell to my customers on credit and get back payment in 20 days. So If I buy a raw material today and sell finished product after 10 days, I need to pay my suppliers 5 days after I have sold my products. And my customers will give me money 20 days after I have sold them products!! In short if I am banking only on my customer’s repayment to pay back to my supplier I would be required to make him/her wait 30 days after I took products from him/her. It simply won’t work. If I want to survive in market I need some free cash in my bank to repay my suppliers!! So even if I am selling products on profit I need to some bank loan.
Mix of both these things was happening with Nike at that time. They had solid fundamentals, but they were growing so fast that they were overheating. The banks thought they might be cooking books showing such a fast growth rate but defaulting every time. But Nissho understood the situation. And they had two choices, either allow Nike to sort out their issue with bank and then come back to them, but all during this time, they would have no business through Nike’s channel. On the other hand, what they did was allowed Nike to forget their worries and ensured that the business is continuing as usual. Probably they weighed the two options…One was wait and lose the sales for certain duration. Second was share some pain and ensure that sales are continuing.
This is a classic issue which almost all capitalists face day in and out. Get stuck in legal complications or create a safety and security net on mutual trust, that can ensure that things are running with alternate arrangements and possibilities!!! And these codes of conduct and being men of honor is what runs the capitalism as much as innovation and rule of law does!!!!