If anything positive has come out of the Covid-19 pandemic, it could be the new focus of businesses on managing working capital at all levels of the organizational structure.
The Hackett Group recently released its 2020 Trend Analysis of the Cash Conversion Cycle of Businesses. The results are not surprising given the business climate over the past year. Among the top 1,000 publicly traded US companies, excluding the financial services industry, the number of days of outstanding sales (DSO), days of outstanding debt (DPO) and days of outstanding Inventory Available (DIO) all increased by 1.5 days, 4.4 days and 4 days. , respectively.
Payments take longer to arrive and inventory spends more time on the shelves, but those aren’t the only interesting findings from the study, according to Hackett Group associate director Craig Bailey and director Istvan Bodo. Cash flow and risk sat down with the two thought leaders to discuss how companies have handled working capital thanks to Covid and what they should do as we emerge from the pandemic economy.
Cash flow and risk: Your “2021 US Working Capital SurveyâIndicates significant growth in the three basic measures of working capital. How does this match up with what you see in the real world?
Craig Bailey: Yes, accounts receivable deteriorated, inventory deteriorated, and accounts payable improved. Organizations that felt the negative effects of Covid, that suffered lost revenue or operational impacts, were understandably slower to pay their bills. In some cases, they have taken a structured approach and tried to push back the payment terms. In other cases, they simply withheld or delayed certain invoices. This was particularly evident in the retail trade, but it has happened in most industrial sectors. The debts of organizations have increased and the debts of their suppliers have increased accordingly.
T&R: How long did most companies extend to their customers?
CB: It depended on the company and the industry, but we often saw extended lead times of around 30 days. What was more important than the length of the extension was to make sure that the criteria were clearly defined regarding the length of the extension and under what conditions or timeframes the payments would revert to the original conditions.
At the same time, it should be noted that some client companies have taken the opposite approach. Different industries have been affected in very different ways by the pandemic. Grocery retailers and food manufacturers, for example, have seen their revenues increase. Some of these companies assessed the health of their supplier base and temporarily reduced their own payment terms, paying bills faster than necessary, for suppliers who needed their support. So we saw that it was going both ways, but the majority of customers were looking to push back on their terms.
T&R: Do you see this as good practice in a situation like the Covid economy – carefully assessing the financial health of suppliers and using the cash conversion cycle to relieve the pressure on those who need help?
CB: Certainly. Covid impacted everyone, so it was important to collaborate throughout the end-to-end supply chain. Our recommendation is always to assess the health of your supplier base. Where you are hurting, see if you can push the boundaries and share the burden. But also recognize that sometimes your suppliers may need support, and it is in no one’s best interests to put those suppliers in a bad position.
T&R: And how did suppliers react to customers who paid late?
CB: Many businesses have seen overdue accounts receivable accumulate because customers simply cannot pay. Many of them reacted by reorganizing their accounts receivable teams to very quickly identify and confine clients with payment difficulties. This allowed them, as a first step, to prioritize efforts to collect invoices from companies that did not fall into this Covid category, in order to collect as much of the available dollars on time as possible. And second, it allowed them to identify what to do with customers who were paying slowly: They created payment plans and negotiated with these companies, trying to make some payments rather than none.
Of course, the reverse happened in the days of bad debts. This is the only measure that is improving. It didn’t start with Covid: Over the past five or six years, debt has been one of the first areas businesses tackled when they started looking to optimize their working capital. Their level of success in eliminating DPOs depended on the leverage they had over their suppliers, but it was a strategy, and it continued last year as organizations looked for ways to preserve their liquidity and liquidity.
T&R: What did you see as 2021 progressed and the global economy began to recover?
CB: Right now, we don’t see a big change. We reissued the numbers for Q1 2021, and there was actually another slight improvement in the DPO as payments continued to be late to come out. This is consistent with what we find when we speak with CFOs. They feel a lot of uncertainty right now, so organizations are always keeping money.
What we’re seeing, however, is much more of a renewed interest in working capital. In recent years, organizations have sometimes struggled to generate internal enthusiasm for optimizing working capital, especially inventory. While the finance function examines cash flow and costs, the sales team seeks to maximize inventory in order to maximize products available for sale. These competing interests are the reason why businesses have historically focused primarily on debts and receivables.
T&R: Does that explain why stocks have increased dramatically over the past 18 months?
CB: Well, the increase in inventory was also expected due to the massive disruption in consumer demand, which was unlike anything we had ever seen before, not to mention factory closures and blockages on international shipments. . In an ideal world, companies would have had good visibility to be able to plan for adapting their supply chains, but it all happened so quickly that companies weren’t always able to respond in time. They ended up with excess inventory that they had to reduce.
So we’ve seen organizations looking to consolidate their product lines and portfolios. Before Covid, the pressure to give consumers more choices, more products in more targeted markets, was relentless. But last year we saw a trend reversal: some organizations were saying, âLet’s focus on the main drivers of demand and focus on the products that meet those needs. The textile and clothing sectors have even started to consolidate the seasons.
What we’re seeing this year are organizations re-examining inventory – having those conversations that have always been pretty difficult – in order to become more agile. Executives say, âThe demand situation is very uncertain going forward. We are seeing false starts as different parts of the world open up and then turn around. We’ve also seen a major shift in consumer demand towards e-commerce platforms, and we don’t know how much of that demand will revert to traditional bricks and mortar. We need to monitor demand, inventory and debt performance more closely. ‘ These working capital considerations have come to the forefront of management thinking.
T&R: How do you think this will affect business management and strategic planning in the near future?
CB: We still don’t know what the ânew normalâ will look like. Some of the accepted behaviors of the past might not work as well in the future. Now, when businesses review their accounts receivable, they need to reassess customer credit risk on a regular basis, keeping a close eye on payment behavior. The old traditional ways may not be adequate in allowing the business to react quickly if there is a slippage that could indicate a bigger problem.
On the debt side, CFOs are not content to demand longer payment terms. They are also starting to reassess their supplier base, recognizing that they face increased competition for certain resources. When evaluating accounts payable strategy, in addition to cash and costs, they determine how to factor risk into the equation. In some cases, this means diversifying their supplier base and maybe even bringing some offshore suppliers closer to shore.
Next, the whole organization should focus on demand signals to ensure that inventory management is optimized. We often find pockets of inventory knowledge within an organization, especially in the parts of the business that are in contact with customers, but this information may not be fed back to operations. In the future, everyone really needs to be aware of the levers of working capital so that the business as a whole can respond very, very quickly.
Istvan Bodo: The next few years are going to be a very interesting period from a working capital perspective. Changing demand will create opportunities, but also challenges, for organizations and corporate functions responsible for working capital management.
T&R: There is another statistic in the “2021 US Working Capital Surveyy âI wanted to ask. As the cycle of converting to cash extended, the debt also increased dramatically.
CB: Yes, debt has grown 10% year over year, and it has grown 100% over the past decade. Meanwhile, cash on hand increased by 40% in 2020. We encourage our clients to closely monitor debt levels. Businesses have become accustomed to cheap debt, low interest rates and the availability of credit. Obviously, we don’t know what will happen in the future, but increasing visibility and leveraging the working capital strategy to improve business agility will prepare businesses for whatever. the future can bring.