Over the past two years, hoarding cash was the name of the game for large-corporate CFOs. According to Standard & Poor's, the industrial corporations in the S&P 500 index had $963 billion in cash or cash-equivalents (money market accounts, treasury bills, etc.) on their balance sheets in the middle of last year. That is extremely high by historical standards. What's next?
Whether firms switch gears and increase capital spending or boost hiring this year remains to be seen. But I want to draw attention here to some unintended consequences of being cash-rich.
A bundle of cash is a strategic lever for boards and CEOs on the hunt for acquisition targets that represent good value. But it can also lure CFOs and Controllers into a mental comfort zone that whispers: "It's okay to take your eyes off cash-flow drivers such as Days Sales Outstanding (DSO)."
It's not okay. In the last half of 2011, renewed pessimism about global economic growth once again stirred caution into working capital management strategies. In short, large businesses with the clout to do so let their Days Payables Outstanding (DPO) stretch out. As a result, the DSO of their like-size suppliers increased by one to two days, on average.
What does this mean for you? What steps can you take to address trends like this?
In the short-term, you probably cannot influence the ways in which your key-account sales staff is striking deals and setting payment terms in a cut-throat marketplace. But maybe you can take steps to influence the efficiency and effectiveness of your billing processes—and just maybe, cut a day or two off your DSO stats.
Consider Figure 1. We see large performance gaps (between the best and worst performers) when looking at the time it takes to get error-free invoices out to customers. This chart shows the relative performance of all participants in APQC's Open Standards Benchmarking database in accounts payable, along with a look at one industry-specific cut of the data: durable goods. (It's important, of course, to look at industry-specific data when examining working capital management trends.) Now consider this: We know empirically that dodgy invoice data is the leading cause of payment halts.
This chart clearly indicates that the top performers, using both views of the data, have a significant jump on the worst performers—and a good jump on those in the middle of the pack. We can argue with assurance that many of the top performers have taken steps to rid their billing processes of the root causes of invoice errors.
So, what could this mean in terms of a hard-dollar cash flow boost? You'll want to do the analysis for your own enterprise and figure out how an improvement in "billing cycle time" might lead you to a one-day—or even half-day— DSO improvement. And then you'll want to figure out what that might deliver in terms of an estimated annual cash flow improvement.
Evidence for why this is worth mulling comes from Dr. Stephen Timme, a former professor of finance at Emory University's graduate school of business and, currently, president of FinListics Solutions, a financial software and analytical services firm.
His model shows, for example, that a median performing company with $30 billion in revenue that can cut cycle time by 20 percent (actually less than one day) can witness an estimated one-time $34 million increase in balance sheet cash, or viewed from an on-going perspective, an annual cash flow improvement (including a 6.9 percent cost-of-capital assumption) of $2.4 million. Surely, the crux of the matter involves the "how to do this" details.
APQC is working with Dr. Timme and FinListics Solutions to bring you more on this subject. Stay tuned.
Mary Driscoll is a senior research fellow with APQC, a nonprofit benchmarking and best-practices research organization. She is a regular contributor to Business Finance.