Cash & Liquidity Management

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Working Capital Management: Are You Taking the Right Approach? Working capital management is a critical function of business ó maintaining smooth cash flows may sound simple but for todayís sophisticated, multinational organisations, it becomes a hugely complex task.

Working Capital Management: Are You Taking the Right Approach?

by Robin Bergholm, Head of Working Capital Management, Wholesale Banking, Nordea

Working capital management is a critical function of business — maintaining smooth cash flows may sound simple but for today’s sophisticated, multinational organisations, it becomes a hugely complex task.

Vital, but misunderstood

Surveys show that leaders recognise the importance of working capital management. For example, it was ranked as a “significant priority” for CFOs in Protiviti’s 2014 Financial Priorities Survey1. It is easy to see why: companies that manage their capital well benefit from better cash flow; they enjoy greater return on their invested capital; and they minimise the cost of borrowing.

But Nordic organisations are having a tough time of it. PwC’s 2013 survey2 of working capital performance found an overall 7% deterioration in working capital ratios in the Nordics, while the rest of Europe improved year on year. Working capital in the Nordics stands on average at a 21% of sales, far higher than many European counterparts.

And few Nordic organisations are confident in their ability to manage working capital. Our own 2013 study of financial targets found that only three of the OMX Nordic 40 publish any explicit working capital management target, and only one publishes working capital guidance.

The four elements of a working capital strategy

To optimise working capital management, you need four things:

1. A holistic view of cash management

Many businesses lack a complete view of their working capital and the factors that affect it. This limits their ability to take a strategic approach to cash management.

Of course, making tactical changes, such as optimising order-to-cash and purchase-to-pay processes are important. The benefits of negotiating new payment terms with suppliers can add up.

But to optimise your organisation’s cash management process each of these initiatives needs to be understood in the context of how it relates to your overall goal.

2. Strong, executive ownership

Ownership of different working capital activities is often spread throughout the organisation. Procurement might manage elements of payables, such as supplier payment terms; sales might handle aspects of receivables, such as customer payment terms.

As a result, the CFO and treasury can lack end-to-end control over working capital inputs and outputs. Ownership and visibility may be further muddied by decentralised organisational structures, differences in local regulation and business customs.

To orchestrate the full range of activities you need clear and complete shared ownership of working capital management, at the highest levels of the company. This allows you to make changes to how working capital is managed, or to enforce compliance with processes and policies. It also makes it possible to define a clear scope or strategic purpose for working capital management.

3. A defined strategic purpose

Working capital management is a balancing act: efforts to optimise one aspect of working capital may have unintended effects that undermine your strategic agenda.

For instance, minimising capital tied up in inventory can improve return on capital employed. That might please the market and ratings agencies but that does not mean it is the right thing to do. Inventory might be part of the business model that gives you competitive advantage.

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