In a series of three articles, Capacent share insights on common working capital related challenges connected to an organization’s position in the value chain. This is the second article, which provides advice and examples on how to tackle challenges in the manufacturing part of the value chain.
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A comparison of working capital performance indicators throughout the value chain (figure 1) indicate low performance for AR, AP and inventory for the manufacturing companies.
On average, manufacturing companies have higher number of components per product than processing companies. This leads to a long tail of low volume items being sourced and held in inventory. In product companies with manufacturing, this problem is further exacerbated by a swelling of product portfolios from contractual obligations to sustain long product life cycles as well as differentiation of products per customers and segments. Except driving up inventory, the wide variety of components being sourced weakens the company’s relative buyer power, leading to worse payment terms towards suppliers. Finally, many of the medium sized manufacturing companies in our study sample are suppliers to a few large OEMs with a lot of buyer power, which likely contributes to the high Days sales outstanding found in this category.
Several traditional improvements related to working capital management can be implemented almost overnight, such as payment terms and dunning processes. However, achieving WCM reductions through reducing the number of SKUs (stock keeping units) require foresight and consistent efforts over time. One way to approach this which drives a lot of other benefit except for working capital improvements is product portfolio optimization. Common important considerations include:
Once a clear product portfolio is established, each product and related components can be further optimized by setting up processes related the product life cycle. Key areas with working capital impact which are often overlooked include:
For companies manufacturing their own products, a disproportionately large number of slow-moving parts with high obsolescence is usually related to spare parts. Despite this, spare parts often fly under the radar for the simple reason that it commonly comprises less than 15% of inventory value. Here are a few steps worth looking into when reviewing your how you work with spare parts:
As mentioned, many of the medium sized manufacturing companies in our study sample are suppliers to a few large OEMs with a lot of buyer power, which likely contributes to the high DSO found in this category. Along with being a challenge, this also provides a good base for factoring solutions as OEMs are typically large companies with strong credit ratings which will allow for lower interests and simpler administration. However, as mentioned in previous articles, this type of financing set-up often reduces the perceived importance of working capital processes leading to deteriorating performance over time. To combat this it advisable to follow up DSO both with and without factoring.
So, if you are a processing company and want to free working capital and work smarter. What are the best ways to go at it? Our study and experience from our clients have led us to the following conclusion:
What to do?
Need a working capital expert? Capacent have 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 Erik Påhlson or Fredrik Hammarström. firstname.lastname@example.org, 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.