Working Capital Strategies to Drive Shareholder Value
An HSBC Industry View
by Ian Fleming, Managing Director, Working Capital Advisory, HSBC
Working capital management has emerged as one of treasurers’ most important priorities over recent years. According to Deloitte’s 2015 Global Treasury Survey, in which 23% of respondents represented the technology, media and telecoms (TMT) sectors, nearly 70% of treasurers have been mandated by the CFO to drive working capital improvement initiatives, not simply for tactical reasons, but to drive shareholder value. Despite this mandate, however, the survey revealed that working capital optimisation does not yet appear to be a treasury priority, which suggests that both treasurers’ and CFOs’ commitment, or ability to influence working capital may be limited.
The value of working capital
An important issue for investors in TMT companies is to maximise the efficiency of the asset base. This has been evidenced recently through a series of high profile acquisitions, mergers and divestures within the technology sector, including Dell, HP, eBay and most recently Xerox, as companies re-evaluate the structure of their businesses to unlock shareholder value. However, the role of working capital as a driver of capital efficiency is often overlooked in terms of asset pricing and how the asset base is used. With significant stock market volatility, and growing competition for high quality investment, CFOs and treasurers can no longer afford to be complacent about their working capital performance, nor ignore the contribution that effective working capital strategies make to return on capital invested.
Although the global financial crisis prompted a renewed interest in working capital when market liquidity was more constrained, many companies quickly became complacent. Although access to liquidity narrowed, large, creditworthy organisations in many industries continued to enjoy easy access to credit, encouraged further by the attraction of low interest rates. As a result, many companies boosted their balance sheet in response to the global economic crisis to create a cash buffer, so working capital was pushed down the list of priorities. The lack of working capital focus is not only a historic phenomenon. As economic performance in countries such as US and UK improve, and growth continues in Asian economies, albeit at a more modest rate, companies are focusing more on revenue growth, while strong existing margins, facility headroom and surplus cash also distract from the importance of working capital.
As a result, while treasurers may be mandated to focus on working capital in theory, the reality is that there is often a lack of senior management leadership or motivation, and linking senior management remuneration to return on capital may not be enough. However, given investors’ search for optimal, stable returns in volatile markets, treasurers and CFOs cannot ignore the opportunity provided by optimising working capital processes and metrics, setting the right level of working capital for the business, unlocking cash for investment and growth and therefore maximising capital efficiency and shareholder value.
Driving working capital strategy
An obvious first question is ‘who owns working capital?’ This is not easy to answer given that a number of departments and business units play a part in the supply chain and therefore influence working capital. In this situation, there needs to be a single point of focus not only to co-ordinate initiatives across departments, but to define working capital strategy, and identify, prioritise and drive initiatives to achieve this strategy.
In many organisations, treasury is the most logical owner of working capital strategy and delivery, but this is not always apparent to other parts of the business, which often see treasury more as an aggregator of transactions and business reporting rather than a business function that is in a position to influence the business flows that contribute to working capital.
Treasury possesses a number of unique attributes that position it as a natural ‘owner’ of working capital. Since the global financial crisis in particular, treasury’s role and profile has been elevated as company boards became more aware of the importance of treasury’s cash, liquidity and risk management responsibilities. As treasury’s role has expanded into new areas, such as enterprise risk management etc. it is becoming a facilitator of change, but in many cases, this change management role does not yet encompass the financial supply chain.
Treasury also offers a unique perspective on business flows and working capital metrics, by bringing flows together and analysing the net impact, whereas departments such as accounts payable, accounts receivable and procurement have responsibility for a single element of the financial supply chain. It is therefore a logical next step to use this data collated in ERP or TMS, supplemented where necessary with subsidiary ledger information, for example, to analyse working capital opportunities.