Working capital 2.0 is all about co-operation and optimisation. With trade relationships and costs increasingly coming under the microscope as Brexit negotiations continue, dismiss the concept at your peril, writes Bertrand de Comminges, head of structuring, Europe, trade and receivables finance at HSBC.
When asked to describe working capital management (WCM), it is likely that most corporates will piece together a set of discrete ideas in the form of DPO (Days Payable Outstanding), DSO (Days Sales Outstanding) and DIO (Days Inventory Outstanding). These will eventually come together as part of a cash conversion cycle (CCC). Brexit has brought these metrics to the fore.
At the very least, the UK vote to leave the EU has affected the value of the pound against the major currencies. Purchasing goods, services and raw materials from outside the UK is now generally more expensive. This means that for most companies, working capital requirements have risen. Even those not directly importing will have seen currency-related costs passed on to them.
Although exporters may have benefitted from the weaker pound, an optimised view of cash is now needed to ensure proper funding of export growth. But as uncertainty reigns, exporters should also be considering contingency planning in case the markets move against them. A better understanding of accounts receivable metrics, for example, adds cashflow strength in an uncertain trading environment.
Regardless of perspective, if companies are to thrive in the potentially complex and fiercely competitive post-Brexit global marketplace, WCM should now be seen as a key means of achieving cash visibility and optimisation.
If well-managed, it means cash is not idle, it means more accurate forecasting, it provides a better grasp of funding requirements (essential as interest rates rise) and even trading-relationship improvements.
Thinking inside the box
There are some common practices that help strengthen the working capital position. Reducing DSO by the sell down of short-term assets allows a business to monetise its receivables to a financial intermediary which will settle them in advance. The most common path is ‘without recourse’ where the bank takes on all the risk, for a premium.
Amongst payables solutions, supply chain finance (SCF) is prevalent. At the supplier finance end, typically, it has been the preserve of the large corporate, deployed as a means of enabling smaller suppliers to receive payment in advance of standard terms and, in doing so, maintain a well-funded and functioning supply chain.
On the trade finance side, we’ve seen some companies using their own cash to help stimulate their trade and distribution networks. Moreover, from an inventory perspective, deconsolidation has been used for many years by importing retailers and manufacturers. The process involves a third-party which can break down and store a single shipment of cargo into numerous smaller shipments, delivering these as required. This enables a ‘just-in-time’ delivery model, keeping stock levels low.
No function is an island
These solutions are effective but discrete. Operating in silos commonly means lack of visibility. This can prevent a full understanding of how actions taken in one function can have up and downstream effects that may need to be mitigated. If the different functions are not optimised, the efficacy of the whole business is compromised.
As companies seek new trading partners, or work towards maximising existing relationships under the new rules of engagement, it is clear that re-engineering corporate financial processes, systems, policies and even attitudes, is essential.
The depth, breadth, timeliness and accuracy of data required to achieve this state also places WCM as an inclusive, cross-functional discipline within which a healthy cash culture can thrive.
A higher and wider perspective
This evolved version – working capital 2.0 – holds the notion that, rather than being a mere tactical action, there should instead be a strategic approach. As the emphasis shifts towards the efficient use of cash – and information about cash – right across the business, it requires fundamental working capital metrics and KPIs across each function to be presented to senior management.
The broad-based skills and knowledge required to oversee strategic WCM may be captured in some larger corporate treasury departments. However, it may suggest the creation of a new role such as the head of working capital management. A dedicated incumbent should be charged with bringing order and, importantly, ownership to the different functional boundaries WCM crosses.
The data challenge
With siloed functions come siloed systems and technology. Relevant, timely and accurate data is essential if working capital 2.0 is to be truly beneficial. System connectivity is critical for success.
ERP systems, business intelligence, business process management and workflow tools can combine to provide the necessary storage, extraction, transmission and analysis of data across the piece.
Newer electronic banking developments such as virtual accounts can assist and will enable major improvements in invoice, remittance and reconciliation management.
Perhaps the biggest anticipated change in the WCM space (and many others) will come from distributed ledger technology.
The ‘B’ word again
Not Brexit but ‘blockchain’. This is a form of distributed ledger across which a series of transactions are chained together and broadcast to all participating entities. Importantly, the concept allows the sharing of the control of data but not necessarily the sharing of data. Currently it is positioned as a means of making transactions secure and irrevocable.
In the working capital space, a blockchain could be used to check and validate every new movement of goods and associated documentation, from raw materials to finished products, right through the supply chain. This reduces the delay between invoices being received and authorised by the customer and payment being approved.
In conjunction with APIs – the secure data ‘pipes’ that run between bank and corporate systems – the opportunity to automate almost every documentary process in the procure-to-pay and order-cash chain, including finance, would be revolutionary.
A sustainable model: action now
To take working capital management to the next level, the first step is to see it as a cross-functional activity.
Mapping processes within and between each function and external stakeholders will be necessary to uncover and remediate the pain points. It will be necessary also to regularly review and revise these relationships to ensure optimisation.
However, the creation of a sustainable business model that has positive consequences for multiple stakeholders is an opportunity to move ahead. With benefits likely to be seen regardless of the type of Brexit agreed, WCM 2.0 is surely the prudent course of action for every business.