Companies with good levels of working capital are often more profitable and better placed to attract investment. So how can a business increase its working capital?
Free-flowing working capital is the lifeblood of a vibrant enterprise. Companies with healthy working capital on average boast higher revenue, investment and cash-conversion efficiency, while those with poor working capital management strategies can struggle to maintain financial stability. In fact, research by PwC found that businesses with working capital in the best shape showed 14.1 per cent better cash-conversion efficiency than companies who neglect their working capital.
The cash-conversion cycle is a vital indicator of a company’s efficiency in managing its important working capital assets as well as providing a clear view of its ability to pay off its current liabilities. Rumours of difficulties can harm a company’s credit worthiness, as well as its brand, partnerships and appeal to talent, in addition to unnerving suppliers.
American Express® has identified three ways in which businesses can improve their working capital. The first is receivables performance. Tightening credit and collection policy can improve days sales outstanding (DSO). Increasing the efficiency and automation of payment and billing procedures is also effective.
Second, companies should focus on inventory performance. Expanding inventory requires significant investment, but freeing up capital by reducing inventory can be an effective way of improving cash flow. However, this requires maximising supply chain efficiencies and it can be affected considerably by external economic and environment factors.
There are great rewards for companies that are prepared to embrace a strategic approach to working capital management and serious consequences for those who don’t
The third area is payables performance. This is frequently the most neglected aspect of working capital management, much to the detriment of a business’s long-term fitness. As with accounts receivable, improvements to payments and billing procedures can work wonders for a company’s days payable outstanding (DPO) and remedy much of the long and short-term damage caused by working capital problems.
“Focusing your business’s workout on these three areas and restructuring where necessary can help to bring your working capital under control, which can ultimately deliver healthier long-term financial returns,” says Karen Penney, vice president and general manager of commercial payments UK at American Express.
She points out that companies across the world are putting a greater emphasis on working capital management and this is reflected in global working capital levels. According to PwC, 51 per cent of companies made improvements to their working capital management systems in 2014, with a corresponding 11.3 per cent increase in global cash levels.
“There are great rewards for companies that are prepared to embrace a strategic approach to working capital management and serious consequences for those who don’t,” says Ms Penney.
However, she points out that many companies may already have the cash on their balance sheets; they just need an improved working capital management programme to free it up. The value of working capital is highlighted in a 2016 American Express survey of global finance executives. It found that while they have a cautious outlook for 2016, 68 per cent of those surveyed see investing to optimise cash flow as a top priority to grow their enterprises, and deliver long-term stability and security.
“At American Express, for example, we offer companies a variety of working capital solutions to help companies boost their liquidity and ultimately their profitability,” says Ms Penney. “We provide them with access to benefits such as extended payment terms, increased DPO and extended payment periods for buyers, while also guaranteeing accelerated payment for suppliers. Optimising your payment periods in this way frees up much needed cash, while also facilitating better working relationships with suppliers and customers. Cash is available sooner, for longer, giving companies the control over their payments needed to achieve efficiencies.”
Improving working capital management can bring substantial gains and, as Ms Penney, says: “The earlier you invest, the better you’ll be able to manage the changes to your working capital that come with increased growth.”
Get your working capital in shape
01. Working capital problems are not just the domain of the chief financial officer. Developing healthy levels will require action right across the business.
02. Explore all available options, not just conventional, well-known methods. “There’s a common misconception that making changes to both assets and liabilities is a zero-sum game, since improvements on one side offset improvements on the other,” says Alan Gillies, vice president of UK sales, commercial payments at American Express. “This is far from the case, however, and businesses must be prepared to address all areas of their organisation that relate to working capital.”
03. Restructuring can be challenging and costly in the short term, but it can offer benefits. American Express offers cost-effective and efficient services to maximise the potential capital from payments and supply chain procedures. “For example, our working capital services can be fully integrated into your existing payment process to balance the interests of the company with those of the supply chain, leading to stronger and more reliable payment systems, as well as improved relationships with your commercial partners,” says Mr Gillies.
CASE STUDY: ‘IN OUR BUSINESS POSITIVE CASH FLOW IS ABSOLUTELY KEY’
Westcoast is a fast-growing electronics distributor that is consistently ranked in the Sunday Times Top Track 100 of the largest privately owned UK companies. “In our business positive cash flow is absolutely key,” says chairman Joe Hemani.
American Express payment solutions offer Westcoast a payment period of up to 58 days, considerably longer than the conventional arrangement with suppliers. As a result, days payable outstanding are increased and Westcoast has been able to optimise its working capital.
The company can also access the multi-million-pound credit facility that it has with American Express in order to buy at competitive prices and meet customer demand. Thanks to the electronic payments solution, Westcoast receives payment five days after its customers’ authorisation, which is faster than conventional invoice terms.