Many of us have been through strategy seminars or executive education and heard the phrase "diversification equals risk". This is certainly true when it comes to investing in new lines of business away from the core and acquisitions that aren't strategically market positioned where the parent company adds value to the acquisition. When it comes to objectives for CFO's, there is plenty of research that supports rapid prototyping several solutions quickly and separating the solutions that can be modified to be more successful from the ones that have very little impact or promise for success. For those familiar with the company IDEO, it is their business model to deliver a service that does this often in less than a week with diverse teams yielding many novel insights and new products to market. In this era where cash is king more than any time in our global history, I suggest we can apply this to our annual objectives. In my industry that relies on R&D to win every piece of new business and certainly in the service industry, win rates are well below 50% due to stiff competition (unless you are lucky enough to be a monopoly) so let's examine options in working capital improvement:
Accounts Payable:
1. The traditional mindless approach is to pay suppliers later than the agreed upon terms and hope you don't get assessed late fees. In my past I worked for a public company that only paid employees and specifically approved vendors in June and December to hit their cash flow numbers. This strategy has short term benefits but damages vendor relationships and future negotiations. My experience is the safest use of this strategy is to reduce the number of check runs per month- communicate it broadly to suppliers and if their invoice misses the cut off by one day- they get pushed to the next check run. Even ACH or Wires could be communicated clearly as a Monday or Friday only activity to leverage a few days.
2. Negotiate your size and growth. As one of the few companies that was lucky enough to be growing through 2008 and 2009 both accounting and purchasing departments teamed up to identify our largest vendors and how much our purchases have increased while their other customers were likely decreasing. To the extent that we had alternatives to pit against each other, we were able to take our top 20 vendors from 30 days to either 45 or 60 days making a substantial impact. Some only granted a one year reprieve on new terms but it was significant in 2009. The procurement side internally always want the CFO to commit to setting goals on price or terms but I don't think they are entirely exclusive. Once you have terms extended, there is always room to negotiate pricing at least to market competitive points.
3. Financing- All of us learned in college that the 2/10 net 30 day terms is a ridiculously high rate of return for the buyer so take discounts if they are no brainers, but there are negotiable ways of extending through financing that is cheaper. First, if vendors called to get their payments the second it hit their terms, we offer up amex payments which is interest free to us and they pay the financing cost on the corporate card. P-Cards or splitting the Amex fee is a way to cut the cost of financing the extension of terms. More complex methods like reverse factoring (supply chain financing- see http://en.wikipedia.org/wiki/Reverse_factoring for explanation) are rare but have value for large suppliers if the banking partner is strong.
Accounts Receivable:
1. Traditional approach is of course opening a line of credit with your bank and accepting prime rate lending with A/R as collateral around 85% loan to value (minus aging and cross aging and international balances in some instances). Financially I haven't found a deal as good as this other than an investment in a collections person who keeps your DSO within a few days of best possible DSO.
2. Factoring- unless you can't meet payroll, I don't recommend factoring which is selling your A/R outright with a healthy margin to the factor unless you accept recourse. A more novel approach gaining some market share is a receivable exchange market (www.receivablesxchange.com is one in the US) where you sell your receivables (about 85-90%) for a minimal fee compared to the factoring market and pay interest until the receivable is paid by your customer. There are cons to setting it up like having particular customers send all payments through a new lockbox for this purpose only regardless of whether you sell the invoices or not but definitely a more efficient receivable financing option when banks are less of an option.
Inventory:
1. Often the biggest retailers lead innovation in this area including concepts like scan based trading, vendor managed inventory and variations like seller owned inventory. I more often find myself fighting these off from my customers than implementing them with our vendors. The one that is gaining traction is vendor managed inventory program where I can partner with a large distributor of most of my critical raw materials and for a fee they maintain that inventory in less than a day transport. Carrying much less raw materials increases my turns and if reliable shortens my lead time to customers thus decreasing finished goods.
In summary- I have tried each of these methods with varying success or are currently working through them and in some cases they were successful only for a period of time, but the try-fail-try something else model gets me to these and hopefully more innovative solutions in the future.
Next up:
Lean Consumption and the CEO triangle- how CFO's impact the top line.
For working capital, if a lof of vendors pay by check sometimes it can be reduced by moving them to electronic payments, which creates a win-win because they and you can split the mail and bank float.
ReplyDeleteAdopting Lean manufacturing processes, methodologies, and attitudes can reduce inventory as well, though, as noted, mechanisms must be in place to make sure the inventory is there when it is needed.