Working capital improvements

The past three years have placed more pressure on chief financial officers than any other recent period. A combination of frozen credit markets, non-existent growth and vanishing consumer confidence all took their toll. One day a generation of CFOs were spearheading growth strategies and eyeballing potential acquisitions, the next they were returning to a corner of the finance function and dusting off their copy of ‘cost control for dummies’.

For many finance chiefs the financial crisis presented a set of challenges the likes of which hadn’t been seen in a generation. Plummeting business confidence combined with a banking industry in the throes of a nervous breakdown to create an atmosphere close to panic.

For the CFO, the ability to stay cool in such a febrile environment became crucial. Those that did had to face up to a new environment in which stakeholders were suddenly taking a much closer interest in the business’s key drivers: was management steering in the right direction? How was the supply chain performing? How was the business funded? And was there appropriate focus on the lifeblood of any business: cash.

Now, as the European economy begins its tortuous progress toward recovery, many large corporates are able to report whether or not they made the right calls during the crisis. The difference between a successful response and one that failed to hit the mark can be revealed in a number of metrics, but working capital performance - how the business managed the balance of squeezing the most from its cashflow while maintaining business performance – gives a true picture of whether the CFO managed to re-engineer the business and survive. 

However, working capital is not always top of the CFO’s list. But as Brian Shanahan of REL points out, focusing on this should be a no-brainer. “The one thing that you always have to remember, if you are looking for some kind of funding, with the exception of stealing money from someone, improving your working capital position is the cheapest way you can do it,” he says.

Hackett-REL has made the study of working capital performance its raison d’etre. It recently published its latest working capital survey that examined the performance of Europe’s top corporates, and declared that the results “show clear signs that the recessionary pressures have subsided, which is demonstrated by the most significant revenue growth seen from this group in five years.”

 Looking deeper into the components that defined this year’s working capital success, the survey illustrates improvements across receivables (days sales outstanding, DSO), of 3.0 percent as well as inventories (days inventory on hand, DIO), 2.9 percent. Meanwhile, payables (days payable outstanding, DPO) deteriorated only slightly by 0.1 percent from 2009.

So what explains the improvements? In Shanahan’s view, there are several features of the survey that conform with past precedent. “There’s a general trend that when an economy is in recession working capital tends to improve,” he says. “That’s a very general thing and it’s not always true, but generally it tends to go that way.

As confirmation, Shanahan points to the fact that in recent years, one of the biggest improvements year-on-year in any of the surveys was in 2008 where the US survey showed a 9 percent improvement in one year. Those figures were reported right at the start of the recession in the US.”