Working Capital Unharness your Cash Flow Southern California AFP Luncheon Michael Diekmann Director, Bank of America Merrill Lynch October 10, 2014
Understanding Working Capital Working Capital... = Current Assets Current Liabilities How much cash is tied up in the operation of an organization. Best-in-class organizations are working to optimize their working capital which translates to efficiently and effectively managing payables and receivables Optimize working capital by OPTIMIZING RECEIVABLES OPTIMIZING PAYABLES BETTER MANAGING LIQUIDITY Optimizing days sales outstanding (DSO) Lowered financing costs Reduced transaction and FX risk Streamlined processing Optimizing days payable outstanding (DPO) Lowered borrowing costs Reduced transaction and FX risk Streamlined processing Enhanced cash flow management Optimizing visibility and control Minimized idle cash balances Reduced operating risk 2
A holistic view of working capital management The Cash Conversion Cycle (CCC) Economists quote the CCC metric as: one of the most accurate metrics for the real financial health of a company Operating Cycle Working Capital Cycle Cash Conversion Cycle Cash-to-Cash Cycle Cash Conversion Cycle CASH (Liquidity) Days Sales Outstanding DSO SALES Accounts Receivable (Revenue) into Cash Inflow PROCUREMENT Accounts Payables (Expense) into Cash Outflow Days Payable Outstanding DPO INVENTORY Resources into Finished Goods Days Inventory Outstanding DIO CCC = Inventory days (DIO) + Receivables (DSO) Payables (DPO) The period of time in which a company is able to convert its Resources into cash; or how quickly you convert sales into cash Note: www.qfinance.com; Inventory conversion period: inventory / CGS x 365; Receivables conversion period: receivables / sales x 365; Payables conversion period: accounts payable / CGS x 365
Working Capital Trends -14 Days DSO Best in class companies collect from clients 2 weeks faster. +10 Days DPO Best in class companies pay suppliers 10 days slower. -49% +1.7T Best in class companies have 49% less money tied up in inventories. The increase in cash on hand in 2012. Source: 2012 CFO/REL Working Capital Scorecard
Working Capital Management Lines of Credit Supply Chain Financing Control Visibility Forecasts A/R A/P Legal & Tax DPO Capital Markets Trade Solutions Working Capital Metrics Leasing Access to Capital Cash Management Working Capital Management Financial Processes Liquidity Payroll Pooling/ Netting Repatriation Reconciliation Investing Purchasing DSO Inventory Cost of Capital Interest Rate SOX Financial Risk Management Counterparty Market FX Sovereign/ Country T&E Systems & Processes TMS Rationalize/ Standardize/ Automate ERP
The many facets of working capital Financial Processes Treasury Billing Accounts Receivable Collections Accounts Payable General Ledger Reconciliation Payroll Purchasing
The many facets of working capital Liquidity Investing ZBA Structures Pooling/Netting Repatriation of cash Access to Capital Lines of Credit Capital Markets Leasing Supply Chain Financing Trade Solutions
The many facets of working capital Financial Risk Management Counterparty Risk Interest Rate Risk Sovereign/Country Risk Market Risk FX Risk Compliance Risk Reputation Risk "When written in Chinese, the word crisis is composed of two characters. One represents danger and the other represents opportunity." - John F. Kennedy
The many facets of working capital Systems and Processes ERP TMS or Cash Setting Method Online Bank Tools T&E Purchasing Billing Other Rationalize, Standardize and Automate To get the most out of these tools it is important to rationalize your systems and processes. Standardize your systems and processes and automate as much as possible.
The many facets of working capital Cash Management Control - You cannot manage what you do not own. Visibility - You cannot manage what you cannot see. Forecasting - An accurate cash forecast is essential Access to systems and information Open and honest communication The past is not always indicative of the future. Only when the tide goes out do you discover who s been swimming naked. - Warren Buffett
Understanding Working Capital Working Capital Management focuses on CASH! MAXIMIZING CASH maximizing cash flow by improving DSO and DPO to grow operating cash flow OPTIMIZING CASH ensuring your cash is deployed efficiently by lean and automated processes VISIBILITY/ACCESS TO CASH gaining visibility and access to cash through optimal liquidity structure and forecasting PROTECTING CASH preserving cash by investing wisely and by mitigating the risk of fraud and errors 11
Working Capital Trends CENTRALIZATION One Policy, Process and Technology across all groups and subs STANDARDIZATION Payroll, Accounts Payables, Accounts Receivable, Acquisitions AUTOMATION Remove manual steps, focus on technology enablement, ERP, TWS ELECTRONIFICATION Remove paper-based transmissions, focus on host-to-host EDI Fewer Errors, Tighter Controls Prevent Risk of Fraud Process Efficiencies = Cost Savings Better Data Management, Reporting, Decisioning 12
Procure-to-Pay Cycle Payables Sourcing Vendor Master Data PO & Receipt Invoice Processing Payment Execution Reconcilement Customer Service Sourcing Develop a sourcing strategy Negotiate payments types and term Master Vendor Data Payment methods (ACH, Card, Check, Wire) Vendor review; single electronic payment file for all legal entities Purchase Order & Receipt Requisition entered and routed electronically for approval Purchase Order created and delivered electronically to vendors Invoice Processing Automated invoices; terms verified against what is in Vendor Master, more favorable terms put in Vendor Master Measure, monitor and reward taking full advantage of early pay discounts to improve DPO and cash flow Payment Eliminate or reduce paper-based transmissions Single file submission for all payment types Outsource check printing to reduce costs and protect against fraud Reconciliation Straight Through Processing - file-based transmissions, auto-reconcile payments, manage only the exceptions Capture bank data for improved cash forecasting Customer Service Real time access to internal systems & vendor portal Workflow capabilities to route and resolve requests and problems 13
Optimizing accounts payable 71% Of all invoices received in accounts payable departments today are via paper. Source: Ardent Partners The State of the AP Market: Not Broken, Needs Fixing June 2012 12-36% The risk free return (APR) associated with taking early pay discounts. 73% Companies who have a strategy for converting paper-based transactions for payments to electronic. Source: Treasury & Risk 2012 Going Green Survey 2012
Order-to-Cash Cycle Receivables Customer Master File Order Management Invoice Creation Cash Application Collections Past Due Reconciliation Reporting Customer Service Customer Master File Centralized customer master that feeds order management with hierarchy set-up facilitate global exposure reporting Customer master stores credit limit, standard payment terms and payment method Order Management Purchase Orders received electronically from customers, integrated into ERP system Orders are auto-released provided exposure is below credit limit and within terms Invoice Creation Automate the creation of an invoice sent electronically upon shipment of goods (decrease paper invoicing) If customer cannot receive file-based transmission, have ERP system send invoice automatically via email or fax Standard payment terms printed on invoice from Customer Master system with standard invoicing being electronic Cash Applications Straight through processing based on electronic invoicing, collecting, application and reconciliation Customer-specific cash application rules housed within ERP system Minimize and rationalize bank accounts, consolidate accounts with fewer banks to reduce costs and assist visibility Collections Past Due Centralized Collections group, measure, monitor and reward collection to terms with periodic audit Check & ACH collections flowing to Lockbox/bank with data capture to facilitate straight through processing Reconciliation/Reporting Automate daily reconciliation ; straight through processing and manage exceptions only Write off analysis to determine if there are any customer or process trends that need to be addressed Capture bank data for improved cash forecasting Customer Service Real time access to internal systems Workflow capabilities to route and resolve requests and problems 15
Optimizing Receivables 43% Of businesses have customers 90 days or more past due. Source: FundingGates 2013 56.8% Companies who have a strategy for converting paper-based transactions for receipts to electronic. Source: Treasury & Risk 2012 Going Green Survey 2012 +10X Companies who accept card payments have a 10X shorter order to cash cycle than payment by ACH, Wire or Check. Source: MasterCard & Kaiser Associates-Commercial Card Acceptance Cost Benefit, November 2012
Working Capital. working for you Cash Flow and Cost of Capital Impact Estimated Savings and Cash Flow Improvements in the Cash Conversion Cycle Company with $200MM in annual revenue ($ in 000's) CURRENT 1 Day 3 Days 6 Days Annual Sales $200,000 $200,000 $200,000 $200,000 COGS $175,000 $175,000 $175,000 $175,000 Weighted Average Cost of Capital 9.5% 9.5% 9.5% AR Days Reduced 1.0 3.0 6.0 AP Days Increased 1.0 3.0 6.0 Total Days Saved 2.0 6.0 12.0 AR Cash Flow Impact $548 $1,644 $3,288 AP Cash Flow Impact $479 $1,438 $2,877 Total Cash Flow Impact $1,027 $3,082 $6,164 AR Cost of Capital Savings $52 $156 $312 AP Cost of Capital Savings $46 $137 $273 Total Potential Savings $98 $293 $586
Working Capital. working for you Cash Flow and Cost of Capital Impact Estimated Savings and Cash Flow Improvements in the Cash Conversion Cycle Company with $500MM in annual revenue ($ in 000's) CURRENT 1 Day 3 Days 6 Days Annual Sales $500,000 $500,000 $500,000 $500,000 COGS $440,000 $440,000 $440,000 $440,000 Weighted Average Cost of Capital 9.5% 9.5% 9.5% AR Days Reduced 1.0 3.0 6.0 AP Days Increased 1.0 3.0 6.0 Total Days Saved 2.0 6.0 12.0 AR Cash Flow Impact $1,370 $4,110 $8,219 AP Cash Flow Impact $1,205 $3,616 $7,233 Total Cash Flow Impact $2,575 $7,726 $15,452 AR Cost of Capital Savings $130 $390 $781 AP Cost of Capital Savings $115 $344 $687 Total Potential Savings $245 $734 $1,468
Working Capital. working for you Cash Flow and Cost of Capital Impact Estimated Savings and Cash Flow Improvements in the Cash Conversion Cycle Company with $1B in annual revenue ($ in 000's) CURRENT 1 Day 3 Days 6 Days Annual Sales $1,000,000 $1,000,000 $1,000,000 $1,000,000 COGS $875,000 $875,000 $875,000 $875,000 Weighted Average Cost of Capital 9.5% 9.5% 9.5% AR Days Reduced 1.0 3.0 6.0 AP Days Increased 1.0 3.0 6.0 Total Days Saved 2.0 6.0 12.0 AR Cash Flow Impact $2,740 $8,219 $16,438 AP Cash Flow Impact $2,397 $7,192 $14,384 Total Cash Flow Impact $5,137 $15,411 $30,822 AR Cost of Capital Savings $260 $781 $1,562 AP Cost of Capital Savings $228 $683 $1,366 Total Potential Savings $488 $1,464 $2,928
Working Capital Goals What Goals Does Your Firm Want to Achieve? Operating Cash Flow Changes in Working Capital Cash Conversion Cycle DSO + DIO DPO Prevent Fraud/Tighten Controls Margins Gross Margin EBITDA Margin Gain Market Share Incremental Cash Flow Cost Reduction Tighter Controls Fewer Errors Better Reporting 20
Best practices in working capital Focus on long term solutions Have clear goals and measure them Centralize and Standardize Globally Benchmark Optimization is a journey, not a destination
Taking the Steps to Success Establish an active working capital management approach Success 1. Identify Your Objectives Process improvement Reduced resource time Reduced cost Improved cash flow Improved DSO / DPO Profit center vs. cost center 2. Understand Your Challenges Internal education / awareness System capabilities Payment types A/P process & terms A/R process & terms Visibility Resource time 3. Identify Potential Solutions Comprehensive payables Comprehensive receivables Supplier / Receivables financing alternatives Liquidity structures Reconciliation / cash application Advanced reporting & analytics 4. Support Holistic Approach Create awareness Identify key stakeholders Establish KPIs and accountability Implement comprehensive integrated solutions Optimized Working Capital Management Approach These steps are instrumental for driving rapid improvement and continued satisfaction 22
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