Boost operational performance by releasing tied up cash
Working capital management is an area that usually comes into more focus during troubled times, when companies need to put more active focus on managing cash flows. However, during recent years there has been an increased interest to more actively challenge the current working capital structure by making a sustainable change in performance. This is a very logical approach, since there are many direct benefits of doing this.
Working capital is usually easier to improve than other performance areas Compared to areas such as sales growth and cost reduction, working capital is usually easier to address. Areas such as receivables, inventory and payables management is to high extent internally controllable and a lot of improvements can be achieved rapidly. For receivables and payables, as much as 50% of the impact can be achieved already in the first 6 months. It is also an attractive area from a change management perspective, since a lot of focus will be on improving billing process lead times and quality, an area where employees usually are experiencing a lot of friction and where improvement work is highly appreciated.
Improving working capital frees up cash for growth and further improvements Focusing on quick wins and rapid levers to improve the working capital structure has multiple benefits for the company. Finding and implementing improvements tend to build up a momentum and interest to further challenge and improve the working capital related processes. It also quickly frees up cash that can be used to fund other prioritized initiatives inside the company, such as expansion and other operational improvement work. Because of this, working capital management should be a prioritized area for any company departing on a change journey. We have over the years seen examples of companies freeing up enough cash to fund entire 3-5 year programs to significantly improve growth and profitability.
Example of structured 3-5 year transformation program funded by working capital
High impact on performance metrics and valuation Finally, strong working capital performance has a big impact on the valuation of a business. Improved performance significantly reduces the amount of invested capital, and improve operational metrics across the board. The ability to perform well on this metrics is highly appreciated by banks and financial analytics and companies will be rewarded in line with that
With these obvious upsides it is remarkable that not more companies are in pursuit of fully leveraging the opportunity at hand. Our experience shows a few recurring reasons why.
Working capital is not on top of the management agenda – There is a strong focus on the P&L statement rather than the balance sheet, and in many cases items such as inventory levels or payment terms are used to enter new markets and win deals and hence used to subsidize growth
Cross-functional coordination issues – Internal politics makes changes hard since some parts of the organization (e.g. sales and purchasing) might have other incentives than the finance department have to improve the metrics
Lack of knowledge and resources – Many companies don’t know where to start and don’t have the resources available to drive the improvements
No mechanism to measure and follow up performance – For many companies it is hard to know what to improve, since they don’t have any relevant way of measuring their performance and no targets set
System issues – Lack of good IT-systems and/or lots of manual work required to get good data out. For many players just creating a report on working capital takes a lot of time and the data is often not granular enough to support good analyses
Successful companies in general tackle these issues by addressing them on multiple levels. It all starts in the management team by jointly deciding to focus on improvement and setting an aspirational target. There is also in general a better success rate if the working capital initiative is run as a focused project, rather than as part of the daily operations. By focusing on addressing quick wins first, it is possible to build a positive momentum and capture a big part of the potential. After this, the company should move into a state of continuous improvement where focus is shifted to measuring and fine-tuning the system. In order to make the change really happen, we recommend that a cross-functional project team is set up with a mix of seniority and analytical capacity, strong enough to drive the work and build the appropriate fact base to expedite quick decisions.
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Are you responsible for working capital in your business and interested in learning more on how to practically work with optimising it? Sign up to our free upcoming breakfast seminar in Stockholm on May 27 (in Swedish) at T-house on Engelbrektsplan 1 in Stockholm. In an open forum we will discuss what working capital improvement areas to address, share best practice on how to do it and key steps to capture the full potential.
Sign up HERE