Working Capital Needs: Bust to Boom

According to a recent CFO Magazine report, 2009 was one of the worst years ever for working capital performance, as companies were slow to adjust to the recession. Reviewing the 1,000 largest US public companies, average days working capital (DWC) jumped 8% in 2009 to 38 days, from 35 days in 2008. In round numbers, receivables were 10% higher in 2009, matched by an 11% increase in days payable. Coupled with companies replenishing inventories after 2008 and those holding unsellable product in 2009, days inventory outstanding (DIO) rose by 9%. This may not sound much, but further down the line to smaller privately held companies, less efficient financial management can exacerbate the problem.

Working Capital Improvements

One obvious tactic for better working capital is to improve cash collections and accounts payable. As a hypothetical example, if OK Services Co. had daily sales of $100,000, and they improved collections and payables by 10 days, that could free up $1,000,000. In other words, OK Services Co. may be able to finance capital expenditures or working capital requirements from internally generated funds, which is a better business model than having to go to the capital markets for more cash.

In contrast to 2009, the expectation for 2010 and 2011 is that leaner companies will more effectively use working capital than in previous years. In some cases, however, the working capital performance gains leading up to 2006/7 were replaced by crisis management – delay supplier payments and stop production of certain products. These crisis changes, however, are not sustainable and it may be difficult for many companies to revert to working capital best practices. When the economy turns north again, it is going to be critical to get back to effective management of inventories, collections and payments (the three major areas of working capital)

Handling Growth

How are midsized Oklahoma companies going to be able to cope with growth? This is a significant capital problem to watch out for in the next twelve months. We are going to see many companies struggling to find the cash to keep up with an increase in orders. And banks may be unwilling to extend the cash they need. As a result, now is the time to be working on better working capital systems and processes, so you can drive most of the capital requirements from internally generated cash and not need to ask for as much from your bank.

In 2006 and 2007, credit was cheap and easily available. 2010 is a new normal, so it’s time to start thinking about one of the greatest, but potentially most crippling problems you can have: How do we cope with all these new orders?