The working capital pitfalls - and why

1. Believing that working capital management problems can be fixed solely by the finance department. Since the levers that most directly impact working capital are operational in nature, working capital optimisation programmes must extend beyond the finance department and engage the company’s entire managerial team.
2. Engaging in artificial efforts, such as delaying payments to suppliers or indiscriminately stepping up collection activities, to boost quarter- or year-end performance metrics. In business, as in physics, every action is met with an opposite reaction. Delaying payments to vendors may reduce working capital over the short term, but that improvement is likely to disappear over time as vendors adjust their pricing accordingly. A haphazard, ill-managed collection push is unlikely to achieve any long-term results, and may alienate customers.
3. Beating the ‘cash is king’ drum internally and externally, but not linking executive compensation to cash flow and comprehensive working capital metrics. For most managers, compensation drives behaviour better than a mantra.
4. Waiting for a business recovery before trying to improve working capital processes. Just as growth should not be used as an excuse to ignore working capital, neither should a crisis. Doing so can significantly inhibit a company’s ability to grow and meet demand once business rebounds.
5. Believing that enterprise resource planning (ERP) systems and technologies are the silver bullet for working capital improvement. Many large investments in ERP systems generally do not, by themselves, bring working capital improvements. Over the near-term, they can cause deterioration in working capital performance, as key managers and employees are distracted from their daily routines and forced to fine-tune the new system.
6. Failing to connect suppliers and customers across the enterprise to gain significant, mutually rewarding benefit. A company can improve working capital performance while treating itself, customers and suppliers as three distinct entities, but maximum benefits are achieved when business processes mirror the inextricable ties between the three entities.
7. Delaying payments to suppliers as a tactic to increase cash flow before fully exploring how your company can negotiate better terms or gain discounts for prompt payments. Once you become a late payer, your bargaining position is severely compromised. Instead, use your leverage as a prompt-paying customer to your advantage. You’ll not only save more money, but retain the good will of your suppliers.
8. Reducing inventories without improving the overall supply-chain process. There is a direct correlation between inventory management methods and the level of customer service the company can provide. If you simply reduce inventory levels without addressing core processes customer service will suffer.
9. Letting debt become overdue before identifying disputes and contacting customers to resolve them. A better practice is to contact your most valuable customers before payments are due to resolve any potential disputes. For payments that do become delinquent develop a proactive, systems-based, event-driven procedure to resolve disputes. Assign collection responsibilities to specific individuals and escalate that responsibility to increasingly senior employees as invoices become further past due.
10. Having a business model geared around making-to-stock when you have the capability of making-to-order or making-to-demand. ‘If you build it (they) will come’ is a movie cliché (‘Field of Dreams’), not a sound business practice for most companies. Gearing your business model to customer demand is simply more efficient and logical than gearing it to sales projections. Companies that must rely on sales projections should develop forecasting techniques that incorporate intelligence from all relevant segments, including not just sales but manufacturing, distribution and marketing.

Source: John Mardle, Develin & Partners