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Current Trends in Working Capital Management

Guest post by: Tracy Eden

Article Overview: Three years ago, as the depth of the financial crisis was just beginning to be felt, banks started tightening the reins on credit, resulting in a severe credit crunch. In this environment, cash conservation became the name of the game. But today, U.S. businesses are flush with cash, and the emphasis on wringing every dollar out of working capital has dissipated. But do improved corporate balance sheets, a brighter business lending picture and an improving economy mean that CFOs should adopt a new mindset when it comes to working capital management? Not necessarily.

Current Trends in Working Capital Management

Flash back almost three years ago, to the “technical” end of the Great Recession in June of 2009. The depth of the financial crisis was just beginning to be felt, and banks were tightening the reins on credit, which resulted in a credit crunch that made it nearly impossible for many businesses to obtain the capital they needed to grow, much less keep their operations going.

In this environment, cash conservation became the name of the game for many CFOs. To try to squeeze more cash out of their supply chains, businesses focused on tightening collection of receivables, stretching out their payables and reducing inventory.

A Different Scenario

Now, fast forward to today. According to the data revealed in the 2011 CFO/REL Working Capital Scorecard, U.S. businesses are now flush with cash. As a result, the emphasis on wringing every dollar out of working capital seems to have dissipated somewhat.

For example, the scorecard revealed a paltry 2% decrease in days working capital (DWC). Meanwhile, days sales outstanding (DSO) declined by just 0.1% and days inventory outstanding (DIO) and days payable outstanding (DPO) both rose by just 1.1%.

These modest improvements in working capital performance seem to indicate that the emphasis by U.S. businesses has shifted from working capital improvements to sales growth and profit enhancement. “The energy and focus have now been placed much more on the profit-and-loss statement,” noted Mark Tennant, a principal with REL, which co-sponsored the research. “There isn't a continuous focus on cash flow and working capital.”

Meanwhile, business lending activity appears to be on the rise. Data recently released by the FDIC reveals that overall commercial and industrial (C&I) lending by banks increased during each of the five quarters preceding third-quarter 2011 after declining steadily since early 2008. And the growth rate in borrowing among small businesses (as measured by the Thomson Reuters/PayNet Small Business Lending Index) increased by double digits over the previous year for the 17^th consecutive month in December.

A New Mindset?

So, do improved corporate balance sheets, a brighter business lending picture and an improving economy mean that CFOs should adopt a new mindset when it comes to working capital management? My answer: Not necessarily. In fact, statistics like those noted here could lead CFOs to adopt a false sense of security.

In the article posted on CFO.com reporting on the results of Working Capital Scorecard, Stephen Payne, Americas leader of working capital advisory services at Ernst & Young, stated that corporate balance sheets may not be nearly as impervious as they seem. Despite an impressive recent comeback in corporate productivity, high unemployment continues to plague the economy, Payne noted. To produce sustainable growth, companies will “have to hire people and invest via capex, and that's going to start depleting their cash hoards,” he said.

I would add that, while there have been recent signs of improvement in the U.S. economy, we’re by no means out of the woods yet. While positive, economic growth remains anemic, especially compared to most other post-recession rebounds. And unemployment remains stubbornly high, despite some recent improvements in the employment picture.

Finally, while the Small Business Lending Index points to positive signs for business lending, more FDIC data paints a different long-term picture: The overall volume of small business loans (defined as loans of $1 million or less) has been shrinking since 2008 and was down 15 percent from its peak as of September 30, 2011. There were just 1.5 million small business loans outstanding at this time, the smallest number since 1999, according to the FDIC.

Now, contrast these figures with the latest Asset-Based Lending Index, which is published quarterly by the Commercial Finance Association. There was a 1.5% increase in total committed credit lines in the third quarter of 2011 from the previous quarter, which was the fourth consecutive quarterly increase in asset-based credit lines.

Total asset-based credit commitments grew by 5% compared to the third quarter of 2010, and new commitments were up by more than 26%. Half of asset-based lenders reported an increase in new credit commitments and 70% reported an increase in total commitments, while utilization of asset-based lenders’ credit lines increased for the third consecutive quarter, to 40.5%.

Uncertainty … and Opportunity

The presidential election this November will probably add to, rather than subtract from, the uncertainty that has plagued the economy since the financial crisis began more than three years ago. Given this, CFOs would be wise not to get too complacent about working capital management.

Meanwhile, this uncertainty could mean opportunity for asset-based lenders in 2012. If the economy continues to pick up steam, small business credit demand will certainly rise. But many small businesses still won’t qualify for bank financing, making them good candidates for non-traditional and asset-based loans.

This makes now a good time to start cultivating relationships with local bankers, who can be important referral sources for small businesses that could potentially benefit from factoring and other asset-based loans. Doing so could be one of the most important strategic moves you make in 2012.

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Article Tags: cash conservation, credit crunch, financial crisis, PayNet Small Business Lending Index, working capital management, Working Capital Scorecard
Referred by: http://donsadlerwriter.com



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