Executive summary
Every business needs to protect and activate its working capital, to support resilience and growth — especially in today’s turbulent environment. When business leaders can understand, predict and optimize their liquidity, they can make smarter capital decisions and respond to disruption with confidence.
Emerging financial technology can give leaders data-driven insights with finer granularity than ever before. Those insights often uncover hidden value and help identify how to fund the future. Finance teams must apply these new capabilities with disciplined governance and accountability, to help leaders perceive the best opportunities, build upon lessons learned and ensure that every dollar drives measurable business impact.
Chaos, cash and comfort
Cash is the fuel for business, so your business needs to keep it flowing.
What if a disruption drains you dry?
“Some would say earnings are the way to pay the bills — but I would argue that, no, it’s cash flow,” said Grant Thornton Business Consulting Partner Mike Hennessey. “If you’re not collecting on your receivables, you can have all the earnings you want, and you still can’t pay your bills.”
Beyond paying bills, your cash should also fund your future. “If you can’t unlock the appropriate working capital, there can be a cost of opportunities lost,” Hennessey said.
“We’re in uncertain times, when businesses are constantly being disrupted. So, cash is always king, and that has never been more true than today — there’s a level of comfort in liquidity, along with the ability to understand that liquidity, predict that liquidity and make decisions from those predictions,” Hennessey said.
Leaders need their finance teams to help determine exactly what capital the company has and where it will yield the most business value. “It comes back to: What are the right metrics, and how can you drive to them? What visibility — and what tools — do we need, to make those decisions?”
“Ultimately, you’re asking, ‘Can we make sure that we properly deploying, or not deploying, capital at its core?’ That’s the question CFOs are asking themselves every day,” Hennessey said.
You can conquer today’s chaos with the right working capital, but only if you know how to put it to work.
Get finer granularity
Start by ensuring that you have the cash processes and visibility that you need.
As a foundation, ensure that you’re getting paid at least as quickly as you’re paying — make sure that your days payable outstanding (DPO) are not fewer than your days sales outstanding (DSO). “If you make sure your receivables and payables offset each other, you can focus on the working capital tied up in inventory,” Hennessey said, noting that inventory calculations vary by industry. Companies that maintain significant inventory can then look at how to reduce that cost, but Hennessey noted, “There’s naturally a tension between inventory and customer satisfaction.”
To navigate this tension, and all of the tensions behind the myriad factors in your capital plan, you need to see your profitability. You need the granularity to segment and analyze your company’s deal, product and customer profitability. This can inform how to manage inventory, accounts receivable and pull other levers to improve your cash conversion cycle and access cash more quickly.
“Not all revenue is good revenue,” Hennessey said. “Get customer-level and product-level profitability analysis. Find out what products you can turn the fastest and make the most money on. Often, companies don't have visibility into that. The ability to know where you are most profitable, and have the best cash flow in working capital, is a function of your ability to get that granular decomposition of your P&L.”
This granular insight can fuel big decisions. Hennessey recalled one company that cut a business line constituting 10% of its business, when its EPM solution’s granular analysis showed that the business line was unprofitable. “So, their consolidated EBITDA grew on a smaller top line, because they finally had the visibility for a better understanding. At the end of the day, revenue is not the metric that's paying your bills.”
EPMs and other solutions can give companies the insight they need to improve their cash and other finance decisions, but some finance teams have been slow to adopt or integrate these solutions. Why is that, and how can leaders drive teams to adopt better tools?
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New technology can not only enhance analysis, they also offer more robust learning models that improve over time. Plus, they can examine internal data in the context of external information like commodity price analysis, distribution price, exchange rates and other factors. “We can build any number of factors into models, to make sure that we are looking at products and customers in the most granular way as leaders make decisions. That can go back to freeing up working capital,” Hennessey said.
So why are some teams not using these tools?
“It’s the cost of untrust,” Hennessey said. “There is a level of trust in the false precision of some spreadsheet models that teams have used for 20 years — and that leaders have used to run the business. They give teams 70% of the picture, and they feel like that's the right answer.”
Often, the change management required to migrate a team’s processes and roles will present a bigger hurdle than the expense of the technology. Plus, organizations haven’t encountered a pressing event that forced them to make the move.
“The necessity for this modernization has happened over time,” Hennessey said. “It’s accelerated, but there hasn’t been an individual trigger that forced the hand,” Hennessey said. The benefits are clear, but the threat isn’t. “To make this move, someone in leadership needs to push the organization while also articulating the benefit to both the organization and the individual.”
There are compelling arguments that form the business case, including returns that could fund initiatives.
“This will drive better financial decisions, which will likely drive more cash flow from working capital,” Hennessey said. “The ability to reinvest locally, build new facilities, invest in people and invest in internal technology — that can be self-funded through better use of working capital. And if you need to borrow against it in a declining interest rate environment, the combination of the two is almost self-funding. So, we can free up some cash through better working capital management and borrow in a low-interest-rate environment that'll allow us to invest in any of those initiatives.”
Once new tools are in place, finance teams need to apply the powerful new capabilities with consistent control and accountability.
Get more control
To make the best use of working capital, companies need to control and analyze allocations with close scrutiny.
Many companies fail right out of the gate.
“Many of the worst allocation decisions are made without a business case,” Hennessey said. “We see that a lot. We also see decisions made with business cases that don’t have proper governance and monitoring.”
If organizations are diligent enough to require a business case for allocations, they also need to monitor that business case.
“There’s often a lack of governance — during the spend and after the spend,” Hennessey said. “During the spend, we need to monitor the outflow of cash to make sure that it’s aligned to the business case that drove the decision. After the spend, we need to do a postmortem and look back at those months of spend. If it turned out to be a bad decision, let’s understand why.”
“In fact, it’s infrequent that we see business case monitoring and then a postmortem at the end,” Hennessey said. “The learning at the end is key. If it’s done right, we're going to look at operational KPIs in the business that drive the financial KPIs. Financial KPIs are reporting the news — by their very nature, they talk about things that happened. We need to make sure we understand the operational KPIs that drive those financial KPIs.”
One of the KPIs that stakeholders now demand is timing.
Deliver what stakeholders demand
Business stakeholders and decision-makers are looking more closely at the timeline of returns on working capital investments. “There’s increased scrutiny of not only delivering on the investment thesis, but delivering on it within the window that’s been specified,” Hennessey said. “If you say an investment will get a return of capital in six months, and it becomes nine months, that would be fine in the past. Now, there is a laser focus on delivering in the horizon that was promised.”
Leaders are raising their expectations overall, as they watch more businesses deliver innovative financial visibility and insight. “Your competitors are doing it. We can listen to any number of earnings calls, and the thirst from the investor community is to have more visibility,” Hennessey said. “So, this granular insight is not only something required to run the business, but also to deliver insights to your owners, whether they are on the street or through private equity.”
In the chaos of today’s challenges and opportunities, stakeholders and leaders need to know that you are putting your working capital to work — and that you can show the results.
Hennessey explained, “We need to learn from our investments — those that were wild successes, those that were on budget and those that didn’t deliver the results we expected. We know we’re going to have all of the above, and that is data for us to improve our future decisions.”
Content disclaimer
This Grant Thornton Advisors LLC content provides information and comments on current issues and developments. It is not a comprehensive analysis of the subject matter covered. It is not, and should not be construed as, accounting, legal, tax, or professional advice provided by Grant Thornton Advisors LLC. All relevant facts and circumstances, including the pertinent authoritative literature, need to be considered to arrive at conclusions that comply with matters addressed in this content.
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