The task is particularly timely at the present point in the economic cycle. Led by the US Federal Reserve, central banks are tightening monetary policy and increasing interest rates. As a result, companies will need to put idle cash to work and manage their debt levels accordingly. Payables and receivables, which make up over half of working capital figures on average, as well as cash conversion cycles, are bound to become top of mind for finance functions dealing with increasingly complex global supply chains.

The Economist Intelligence Unit has spoken to three senior finance executives from major corporations—an American software company, Autodesk; Amsterdam-headquartered telecommunications provider Global Telecom Holding; and an Austrian petrochemicals firm, Borealis—to uncover their strategies in squeezing every last cent of value out of their working capital.

A strategic task

“Working capital management is an essential task at any point in time, but it has changing parameters and may require a change in focus, depending a company’s situation”, says Jan-Martin Nufer, director of treasury and funding at Borealis.

While interest rates have been rising steadily in the US since 2015, reaching 2.5% in December 2018, they remain low in Europe, which means few local CFOs have felt an incentive to optimise payment setups with suppliers and customers. But Mr Nufer believes now is the right time for companies to rethink their working capital management practices, establishing new terms that will be beneficial once rates rise and “working capital management obviously gets more important for both sides of the supply chain.”

Similarly, freeing up cash by shortening the working capital cycle may not have been a key priority for companies sitting on high amounts of liquidity. However, as inflation returns, putting pressure on margins, firms may look at this straightforward, inexpensive way of boosting cash generation in a different light, explains Gerbrand Nijman of Global Telecom Holding. “I think managing working capital is strategic because it’s cash that doesn’t work, that doesn’t generate anything. I would rather spend it to have my network running or to pay a dividend to my shareholders,” says the CFO and former head of investor relations.

Dynamic KPI approach

Global Telecom, which operates in Algeria, Bangladesh and Pakistan, embarked in 2015 on a wide-ranging programme to reduce its working capital load with a focus on smartphone inventory, a particularly pertinent aspect in a market where tastes in mobiles can change quickly.

The company is moving to a just-in-time approach, similar to that used by automakers, which means less capital is tied up in warehouse space “just in case”.

“If you have a warehouse, people will fill it. I want a supply chain where the stock in the warehouse is not mine until I use it—it’s cashout otherwise,” notes Mr Nijman, who closely monitors average age of inventory. It is “a very good eye-opener” on the efficiency of sales and obsolescence risk, he says.

A finance director would typically look at extending days payable outstanding (DPO) and reducing days sales outstanding (DSO), however, these measures may not be optimal when cash is invested at low or even negative interest rates.

“Relying on rigid, potentially outdated KPIs and paradigms can lead you to the wrong business decision” -Jan-Martin Nufer, director of treasury and funding, Borealis

That’s why many have moved away from monitoring and optimising DSO and DPO as standalone metrics, choosing instead to implement dynamic discounting programmes, where suppliers are offered to be paid earlier in exchange for a discount. Such schemes provide a direct financial benefit to the buyer, and a reduction in working capital for the seller. They can also be switched off should liquidity dry up. Global Telecom turns to dynamic discounting to “reduce working capital and costs to the company, but only if the discount has a positive net present value for us,” Mr Nijman stresses.

Innovative tools

Mr Nufer highlights the importance of having straight-through processing and fully visible data throughout the whole cycle. His team has set up a cross-divisional tool in the form of a working capital calculator. Employees negotiating a deal with a customer or a supplier can use it to calculate the financial impact of allowing a longer payment term, and which price premium should be applied, or compare the working capital effect of different payment terms, based on relevant rates and weighted average costs. “This avoids relying on rigid, potentially outdated KPIs and paradigms, which can lead you to the wrong business decision,” he explains.

“Optimising working capital management needs constant attention. It should not be a one-off exercise” -Gerbrand Nijman, CFO, Global Telecom Holding

The treasurer believes new tools can give companies better control over their working capital. Portal solutions offering “a bit more self-service to suppliers” are entry points into the system, however, they do not solve the problem if the overall process is inadequate or fragmented, he stresses. “You need to get the basics right before you start talking about more sophisticated tools like factoring or portals.” A new generation of technology is also helping monitor demand and increase customer satisfaction, which is important from a cash flow management perspective, particularly when retaining customers is less costly than gaining new ones, according to Mr Nijman. “Big data and artificial intelligence can help manage cash more efficiently by building better predictability for traffic as well as customer demand,” he says. “That will also help better roll out our networks and plan what kind of stock we’ll need in our warehouses. Even though working capital is much more than just managing the inventory—it’s about the whole supply chain.”

Steady cash flows

Shifting a company’s business model can also constitute a winning strategy when it comes to optimising working capital. For Autodesk, the recent move to cloud computing allowed them to offer software-as-a-service— a subscription model that has had a direct and positive impact on working capital management. In the not too distant past, the company had to forecast sales and store an inventory of physical software disks, which tied up capital, before sending them out to clients and receiving payment. That requirement for physical stock affected sales patterns too, with customers invariably delaying the outright purchase of software to the end of every quarter. “The lumpiness in the top line used to translate into lumpiness in the working capital,” says Scott Herren, CFO of Autodesk.

With customers now paying regular fees to access the software via the internet, rather than installing it on their computers, Mr Herren says cash flow management is far easier: forecasting is much simpler when seasonality is removed. And in addition to shortening the payment cycle, the consistent income provided by subscriptions means that the company doesn’t need to offer discounts to encourage quarter-end or year-end sales.

“Days sales outstanding have been coming down over the last couple of years and that is a trend that I see continuing,” adds Mr Herren, who has taken optimisation steps by investing in technology to boost his team’s productivity. Thanks to natural language processing software, finance staff avoid the unattractive task of sifting through old paperwork to spot differences in payment terms and other items that can impact cash flows.

Learning together

Because an end-to-end process involves several departments, it is advantageous not only to have ancillary functions such as accounts payable or credit and collection embedded in the treasury function, but also to establish effective connections with procurement for payables, and with marketing and sales for receivables. “Get out of your silo,” advises Mr Nufer. “This will give you a clear visibility in terms of different flows.”

Optimising the process will require companywide visibility, in order to avoid different divisions pursuing conflicting targets, or having operational set-ups that may suit procurement or treasury individually but don’t work together. And while buy-in from other departments is essential, he believes treasury should hold a centralised responsibility for the process and its governance. “Somebody needs to take that issue up, and take central ownership,” Mr Nufer details. “There needs to be an overarching view and an overarching target.” 

Moreover, Mr Nijman from Global Telecom believes the finance function has a critical role in “ensuring there is just one reality and one truth” within a company. Finance should challenge the business and provide potential solutions on how to reduce working capital. “Collaborating closely with business divisions on structurally improving the supply chain will lead to a lower working capital structure but also to more efficient processes which serve the business and therefore the customer better,” he points out. “Optimising working capital management needs constant attention. It should not be a one-off exercise.”

Indeed, working capital management transcends the finance function. Optimising the process will require a true change management mindset and thinking holistically across the full value chain.

Taking a dynamic approach to working capital metrics, adopting an asset or inventory light business model, or deploying emerging technologies will bring substantial benefits, but a successful working capital strategy relies most importantly on centralised responsibility, straight-through processing, full visibility within the system landscape, and efficient end-to-end processes. As business and interest-rate cycles run their course, there is no doubt working capital optimisation will increasingly be on the radar of CFOs as they look for opportunities to enhance company profitability.

“Get out of your silo. This will give you a clear visibility in terms of different flows” -Jan-Martin Nufer, director of treasury and funding, Borealis

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