WORKING CAPITAL MANAGEMENT
Things come and go. One day we love a certain hobby, a few years later we are utterly bored with it. The same thing is true for management practices. What is hot today seems out of fashion tomorrow. A few days ago, I had an interesting discussion with a group of senior finance professionals. One of them argued (I won’t name the organization) that working capital management was dead – once again. Just like in the late 90s and early 2000s. And then I came across an interesting article in CFO World that seems to confirm this idea. What an interesting thought! Is working capital management really dead? Or more importantly should it be dead?
SOUND BUSINESS PRACTICES
Working capital management is all about increasing the liquidity of an organization. We try to carefully balance our current assets with our current liabilities. To optimize net working capital, companies implement a plethora of different activities such as: lowering inventory, standardizing payment terms, improving demand forecasts, active monitoring of customers that are slow to pay, rationalizing product mixes etc.. Hmm….doesn’t sound all too complicated, right?
THE REWARDS OF WORKING CAPITAL MANAGEMENT
Many companies who do these things well are rewarded handsomely. One of my customers for example put a strong focus on slow-paying customers (AR > 60 days) and was able to free up over 200M USD in cash flow. Overall, I think it is fair to say that the activities that help us optimize our net working capital should belong to the category of sound and useful management practices. The CFO Magazine from September 2008 stated: “One securities analyst has called working capital his ‘microscope’ into the competence of the management team“. I fully agree with that idea.
Why would working capital management be dead now? Sure, a lot of the associated practices are not necessarily sexy and it can definitely be overdone (many companies got extremely harsh with their suppliers and customers during the downturn). But why would we stop doing the good things? Why would we want to have excess inventory? Why would we be lax about managing our accounts receivables? Why would we want to create lousy demand forecasts? Should we start smoking only because the government of a country that we are visiting has decided to loosen the local non-smoking regulations?
SHOULD WORKING CAPITAL MANAGEMENT BE DEAD?
Many countries are experiencing a solid recovery these days and it is a lot easier to obtain fresh credit and to manage cash flow. But I would strongly argue for not abandoning working capital management practices. The recovery is still fragile and there is always a good likelihood of some economies taking a turn for the worse. But apart from that, we should all strive to make our businesses more competitive. Doing that requires patience and effort. Working capital management can be extremely effective but to get the full bang for the buck, we should not treat it as a temporary initiative but rather as a standard process. It takes a while to get really good at certain practices. Business Analytics can play a big part in this. But more about that in another post.