We regularly encounter prospective clients suspecting, but yet unsure that they have potential for cash release from working capital. The catch 22 is often that when cash is tight clients are hesitant to spend cash on consulting fees unless they are sure the returns will be handsome.
Below are five points to consider when assessing whether it will be worth your effort to launch an initiative for improving your working capital.
1. Benchmarking your working capital
Benchmarking can be enlightening, but many industries are hard to benchmark for working capital due to varying business models and degrees of vertical and horizontal integration. A general tip is to identify similar peers (both internally and externally) and benchmark each working capital KPI separately. Also, benchmarking your company’s Days payable outstanding (DPO) with your suppliers’ Days sales outstanding (DSO) will reveal how you compare to their other customers. This works less well for your DSO, unless you are selling to eg. a trading or retail company with a large portion of purchases as homogenous direct material.
Also, remember to consider the maturity of your benchmarking peers. Being a large top performer in a fragmented or recently privatized industry with good margins may say little about your working capital maturity, sinch such industries are typically poor performing. (For more on benchmarking, see the following article.)
2. Incremental improvements
In many working capital projects, there are the large tweaks of business model or key negotiations which dramatically improve working capital within a few months. But after that, there are hundreds of smaller actions to take when optimizing your working capital. This can involve nagging on slow-paying customers, phasing out old products and renegotiating MOQs or smaller contracts as they expire etc. If done right, these small improvements over time will drive the working capital down as a reflection of improving processes and process execution. Therefore, as a general rule, if your working capital is not improving incrementally over time, there is room to do more.
3. Culture – the driver for long-term working capital improvements
While the driver for the incremental improvements can be a strong CFO continuously touting the virtues of working capital to a hesitant organization, this is more an exception than a rule. Instead, assessing whether you have a cash culture will better indicate how far you have gone in your working capital maturity. Since your working capital level is made up of a multitude of small decisions and prioritizations at every level of the organization, culture is the guardian making sure the right prioritizations are made. This results in reducing working capital over time and making it stick. Try asking yourself of questions such as; “Is there is a strong P&L focus in our organization?”; “Does the sales organization set prioritization for operations or vice versa?” (sales usually has top-line or EBIT focus); “Is sourcing measured on landed cost or savings?”; “is capital cost widely known and used?”, etc.
4. Surveys – what is our working capital culture and our processes like?
Even a hands-on COO can have a hard time assessing your culture in a large, decentralized company with 20+ entities. For such tasks we usually recommend working capital surveys which at the same time as assessing culture can internally benchmark processes affecting working capital. As a next step, the survey can be a great assistance in identifying where your organization needs most support or training.
5. Look for outliers
Rather than ignoring outliers, both internal as well as external outliers can contain very valuable information when gauging your relative working capital performance. In a recent project assessing the working capital performance of a client in the utility industry, Capacent identified one region standing out greatly in performance. Due to a historical cash shortage before being acquired they had rationalized their operations greatly in everything from payment terms to inventory steering and adjusting to seasonality. This region, although an outlier in the organization provided a strong reference case to use for the rest of the organization.
Reduced uncertainty and increased understanding are key in starting the journey towards sustainable optimized working capital. Knowledge increases the chance for appropriate timing of an initiative.
Need a working capital expert?
Capacent has carried out over 300 working capital projects and have experience from most industries. So if your company is pursuing working capital reductions, do not hesitate to contact Fredrik Hammarström (firstname.lastname@example.org) or Erik Påhlson (email@example.com). We would be glad to make sure you get the most out of your initiative and are happy to tie our compensation to achieved results.
Fredrik Hammarström is Manager at Capacent_x. Fredrik has experience from driving working capital projects in a wide range of industries, such as manufacturing, trading companies, utilities, and retail.
Do you want to know your working capital performance relative to your competitors?
Read more about or other insights and resources on working capital: