Managing the Working Capital Gap

This is the sixth in the COVID-19 series published as part of the Journeys to Treasury partnership between BNP Paribas, the EACT, PwC and SAP. While restrictions are starting to ease in some countries, we are still at the start of a long journey, and companies of all sizes continue to manage and reflect on the immediate effects of the crisis, as well as looking ahead to what a new normal might look like, particularly in straitened economic conditions.

Managing working capital is essential to every business under normal conditions, but even more so during a crisis. In a recent EACT survey, treasurers identified working capital management as one of their top three priorities over the next 12 – 24 months after cash flow forecasting and technology. While liquidity can come from multiple sources: equity injections, bank facilities and cost cutting exercises, optimising working capital is often the most efficient and cost-effective approach to avoiding and resolving liquidity gaps.

Supply Chain Friction and Delay

The COVID-19 crisis has resulted in friction and delays in many industries’ physical supply chain, impacting in turn on the financial supply chain, such as delay and loss of predictability in accounts receivable (AR). Furthermore, while many companies had achieved a careful balance between days sales outstanding (DSO), days payables outstanding (DPO) and days inventory outstanding (DIO) during normal conditions, mismatches occur, and become more pronounced during a crisis. 

“Many clients are looking for more detailed insights and senior management dashboards to gain daily, or at least weekly, insights into liquidity (e.g. account balances, cash levels by country, entity and currency, and changes to these levels), free cashflow, accounts payable/ receivable flows, open purchase orders, inventory levels and the sales order book. By doing so, they can better understand changing cash flow dynamics, anticipate delays and work with customers to improve predictability. For treasurers, analysing these trends in detail involves obtaining a greater level of detail than would ordinarily be available in the treasury management system (TMS) so they are working more collaboratively with these business functions, and/ or implementing consolidated reporting layers to bring this data and KPIs together.”— Christian Mnich, SAP

In the past, inventory and DIO was less significant for treasurers than DSO and DPO, particularly as many companies had largely perfected their supply chains. Today, however, supply chain delays have meant that many have run down inventories, and stock levels – and financing future stock – has become a more important consideration given its impact on sales. As working capital gaps open up, treasurers are working with their AP and accounts receivable (AR) colleagues, and crucially corporate social responsibility (CSR) experts, to assess and implement working capital techniques, such as supply chain financing, and establish appropriate financial and CSR key performance indicators (KPIs).  

“It is also essential to have a CFO or senior management sponsor for working capital optimisation initiatives to resolve organisational obstacles and ensure that KPIs are consistent across the enterprise. Lack of CFO sponsorship is one of the most common reasons why working capital programmes fail to meet their objectives.” — Francois Masquelier, EACT

Companies’ demands around working capital programmes are also changing. In the past, financing invoices was most common but increasingly, they are seeking to finance earlier in supply chains, such as purchase orders, which may be bring advantages to the companies themselves, but may be more difficult for the banks to finance. 

Working Capital Innovation

While working capital financing techniques are one facet of companies’ approach to closing the working capital gap, many organisations have quickly flexed their business and payment models.  

“We are seeing clients rapidly shifting their distribution models, or accelerating existing plans, such as moving from indirect to direct sales, and adopting new payment and collection methods, such as commercial cards and instant payments. These offer working capital advantages for the company itself, but also advantages across the supply chain by accelerating cash flow.” — Christian Mnich, SAP

While the techniques to manage working capital and address gaps are familiar, the pandemic is likely to inspire further innovation as companies in all industries transform and digitise their business models, and the financing techniques, processes, controls and analytics to support them.   

“We are already having deeper discussions with clients on their future plans and aspirations, with the ideas that are being sketched out likely to be realised in the coming months as we approach a ‘new normal’. While co-creation between banks, technology companies and clients has been a growing trend in recent years, the pandemic has accelerated this trend.” — Rodolphe Vergeaud, BNP Paribas

While working capital gaps may shrink initially as businesses reopen and supply chains are restored, moving towards the next phase of the crisis brings new challenges, not least managing the business in a stark new economic reality. Consequently, maintaining visibility and control over working capital will remain crucial.  

“The importance of working capital optimisation is becoming increasingly recognised not only by senior management and the Board, but also by investors, analysts, credit rating agencies, debt holders and other stakeholders, as they look beyond the P&L and cash generation as measures of the financial health and resilience of the business.” — Francois Masquelier, EACT

Top Tips

• Ensure CFO or senior management sponsorship for working capital optimisation initiatives to resolve organisational obstacles and ensure that KPIs are consistent across the enterprise. 
• Communicate and instil a working capital culture within the organisation through KPIs, objectives, behaviours and collaboration.
• Assess customers’ payment behaviour to anticipate likely liquidity gaps and plan ahead 
• Keep KPIs simple: keeping metrics and monitoring clear and simple is likely to engage people more fully, and make it easier to identify potential improvements. 
• Analyse and reflect on potential working capital partners, and select those with whom you can have confidence over the medium to long-term. 

2020 is the fifth anniversary year of the Journeys to Treasury partnership, comprising BNP Paribas, European Association of Corporate Treasurers (EACT), SAP and PwC. We are marking this special alliance with a ‘Journeys to Treasury Bitesize’ series, providing topical insights and support for treasurers as they navigate this challenging period.