We can work it out: There are ways to reduce working capital without punishing customers or suppliers. But the alternatives aren’t totally pain-free – The 2002 Working Capital Survey – overview of how companies within a wide variety of industry respond to the current recession – Illustration – Industry Overview – Statistical Data Included
Tim Reason
A recession can bring out the best and the worst in corporate finance. The worst has been splattered across newspaper front pages for months now. Some of the best is happening in back offices, where companies continue to find ways to mine working capital-the amount of money they have tied up in operations-to increase cash flow. In a recession, however, the traditional methods companies use to extract that cash-calling in overdue payments, stretching out their own, and relentlessly paring down inventories-can lead to a gigantic, circular squeeze in which no one wants to cut a check to anyone else. This year’s working capital survey, our sixth conducted jointly with REL Consultancy Group, finds signs that companies are exploiting creative tactics to reduce working capital and improve cash flow without alienating customers or stringing out suppliers-much. But these methods pose challenges of their own.
Don’t break the chain
We noted a year ago that squeezing customers too hard might drive them into the arms of a competitor. This year, companies seem more worried about driving their suppliers into bankruptcy-particularly at a time when they need those suppliers to help them reduce inventory. “If you grow your supplier payments by too many days, that impedes your ability to work with them to manage your inventory,” notes Palm Inc. CFO Judy Bruner, whose days payable outstanding (DPO) dropped 13 days last year. And inventory turns are a far more lucrative source of working capital than payables, says REL Americas president Stephen Payne, because finished inventory has a higher value than the raw materials represented by payables.
Palm isn’t alone in treating suppliers well on payables. Across all industries, average DPO dropped by 5 days in 2001 to 32 days. “We don’t believe it is good business practice to extend payables,” says Kenneth A. Goldman, CFO of Siebel Systems Inc., whose DPO dropped from an already diminutive 5 days in 2000 to just 3 last year. “We did not make our cash flow on the backs of our vendors.” Software companies have no inventory, so most of Siebel’s payables are consulting fees, capital expenditures, and ordinary expenses such as rent and utilities. “Clearly we are going to pay those on time,” he says.
Manufacturers with large payables are particularly wary of squeezing suppliers. “In the automotive industry, financial pressure flows downhill,” says David C. Wajsgras, senior vice president and CFO of Lear Corp., which supplies most major automakers with the interiors of their cars under contracts that typically last the life of the car model. With so much riding on its supply chain, Lear goes the extra mile to ensure the financial viability of its suppliers.
“In a number of cases, we have supported suppliers financially,” says Wajsgras, even at the expense of DPO, which for Lear dropped 3 days to 53 last year. A few years ago, when some so-called tier-two automotive suppliers were in danger of going out of business, Lear formed a team of 15 people from the legal, purchasing, and finance departments to detect and aid hard-pressed suppliers. Today, this group is a permanent fixture that regularly monitors the health of Lear’s entire supply base. The payoff of such good supplier relations is a steady growth in Lear’s inventory turns, which improved from 23.4 to 28.6 in 2001. “One-day improvement in inventory turns will generate $15 million to $20 million in positive cash flow,” states Wajsgras.
Taking care of suppliers is just as important to Tom Sabol, CFO and COO of Plexus, which makes electronic components that rely on the shortage-prone chip industry. “If you treat suppliers well with regard to payments, you have a better chance of getting components in times of [shortage-driven] allocations;’ he says. “They do remember who treated them well.” Plexus saw its DPO drop precipitously last year from 52 to 18 days, but inventory turns more than doubled from three to seven. Because Plexus pays its suppliers and distributors promptly, they are willing in some cases to hold the inventory bag, even maintaining stores inside the company’s plants that allow Plexus to buy an item the moment it is needed.
Of course, such techniques shift the burden of inventory to suppliers, says Payne, and just-in-time techniques can simply be a way to pass the buck to the supplier. But in cases like Plexus’s, carrying inventory is sometimes a trade-off the suppliers are happy to make. “Not only are the suppliers paid promptlym” says Payne, “but they also have more visibility into the true demand of the supply chain. So they can manufacture and supply more efficiently, rather than just respond to lumpy supply orders.”
Securitization blanket
Such solicitousness toward suppliers does not necessarily imply a tougher line with customers, however. To be sure, average days sales outstanding (DSO) dropped last year from 53 days to 47 days, as companies like Siebel, Palm, Lear, and Plexus all reported beefed-up collections. But much of the improvement in the manufacturing sector appears to have come not from dunning customers, but from a surge in alternative financing techniques. As capital markets dried up, companies looking for cash turned, often for the first time, to techniques such as securitization of receivables. That can cause the DSO number in the survey to plummet even if a company’s collection activity has not improved at all.
“For manufacturers, a majority of [recent] DSO improvement is due to alternative financing,” declares John Peak, CFO of Transamerica Distribution Finance, which provides inventory financing, factoring, and other receivables-based financing techniques (although not securitization) to manufacturers.
Lear, which reduced its DSO from 44 days in 2000 to 37 days in 2001, securitized $270 million last year-the first time it has used such a technique. Add that amount back into accounts receivables, and Lear’s DSO actually goes back up to 45 days.
“[Securitization] had nothing to do with working capital management, other than that it’s a receivables facility. The ABS [asset-based securitization] facility was put in place because it is less expensive to borrow on an ABS than against our revolver,” says Wajsgras, who estimates that the lower interest costs saved about $2 million.
“Securitization had a lower average interest rate than our line of credit,” adds Sabol, who securitized $23 million for Plexus in 2001 and drew down an additional $17 million in first-quarter 2002.
Of course, companies that opt to securitize usually remain responsible for collecting the receivables, and the technique can be addictive if a company’s business doesn’t improve, simply because it represents a one-time income gain. “Once you get into the securitization world, it’s hard to get out of it,” warns Peak. “Once you get on that treadmill and start recording gains on your income statement, it’s hard to jump off.” That’s made all the more likely by the upfront costs of securitizations. They must be amortized, so any event that forces a company to unwind a securitization before its time carries a high price. Finally, there are growing questions about how companies report securitization activity (see sidebar, facing page).
But for a company like Lear, highly leveraged after a string of 18 acquisitions since 1994 but with no plans for more, securitization can make a lot of sense. “Securitizations are beneficial to a limited universe of borrowers on a slower growth path with a stable financial position who are not trying to maximize their leverage,” says Bob Rubino, senior vice president at Fleet Capital.
And, says REL Americas’s Payne, securitization is a legitimate business decision for CFOs looking to reduce DSO and working capital. “There’s really no way a company can get DSO much below their payment terms without securitization or heavy discounting;’ he says. “With discounting, you pay a little to collect cash from the customer; with securitization, you pay a little to collect from a third parly.” That said, he adds, the better you manage your working capital, the less you may pay for securitization, or even need it.
Indeed, not all companies are turning to securitization. Palm, whose falling stock price has put it under tremendous pressure from investors, successfully reduced its days of working capital from 47 in 1999 to negative 4 last year primarily by focusing on receivables. Palm’s credit and collection team collaborates closely with its sales team, says Bruner, and retailers are careful not to jeopardize shipments of the popular Palm handheld devices. “In a slow economy everyone tries to stretch payments;’ she says, “but [think our products tend to be given a little more favorable treatment.”
Palm also focuses on coordinating demand from retailers with its manufacturing, which is outsourced. Once again, this shifts much of the inventory burden to contract manufacturers. But, notes Payne, “there are lots of contract manufacturers making good money.” Since companies like Palm are dependent on contractors for their products, he says, there’s little likelihood of them unfairly squeezing those manufacturers, whose efficiency may more than compensate for the additional inventory burden. “What is a pain for Palm maybe an opportunity for the supplier,” he says.
Nonetheless, as you review the following tables of the companies that did the best job of squeezing cash flow out of their working capital, keep in mind that, suppliers aside, some of them may have had a little help from their friends at the bank.
THE 2002 WORKING CAPITAL SURVEY
DWC
SALES CHANGE
COMPANY ($ MILL.) DWC ’01-’02 DPO
AEROSPACE
Boeing $58,198 -11 -12 87
L-3 Communications $2,347 -20 10 20
General Dynamics $12,163 41 -39 27
Goodrich $4,185 89 -18 35
Northrop Grumman $13,558 79 4 27
Industry Average $10,641 70 5 30
AUTOMOBILES (MOTOR VEHICLES & PARTS)
Ford Motor $162,412 -16 -10 35
Borgwarner $2,352 -10 1 64
General Motors $177,260 -6 -3 38
Tower Automotive $2,467 -6 -29 55
American Axle & Mnfng Holdings $3,107 15 7 36
Industry Average $20,230 43 -2 43
CHEMICALS
Air Products and Chemicals $5,717 52 -1 33
Eastman Chemical $5,384 22 17 61
Praxair $5,158 52 -4 29
E.i. DuPont de Nemours $24,726 87 3 33
Ecolab $2,355 92 36 31
Industry Average $3,757 72 -3 32
ELECTRICAL COMPONENTS &
EQUIPMENT
Gemstar-TV Guide International $1,368 29 -10 76
Molex $2,366 70 -8 27
AVX $2,608 97 -20 12
American Standard $7,465 51 5 30
Ametek $1,019 88 24 31
Industry Average $3,108 81 -2 35
FOOD & BEVERAGES
Coca-Cola $20,092 -13 6 67
Pepsico $26,935 -14 4 60
Anheuser-Busch $12,922 8 0 27
Campbell Soup $6,664 25 -3 32
Coca-Cola Enterprises $15,700 -9 2 61
Industry Average $7,338 42 -4 29
FOOD RETAILERS & WHOLESALERS
Publix Super Markets $15,284 7 0 17
Casey’s General Stores $1,927 -2 1 13
Whole Foods Market $2,272 12 -1 8
Safeway $34,301 11 0 21
Pantry $2,643 2 1 13
Industry Average $11,793 15 -1 19
FOREST & PAPER PRODUCTS
Rayonier $1,165 40 2 20
Bowater $2,449 27 -7 65
Louisiana-Pacific $2,360 12 -7 39
Weyerhaeuser $14,545 43 -1 20
Potlatch $1,752 25 -8 47
Industry Average $8,037 39 -5 29
HEALTH-CARE PRODUCTS & SERVICES
Apria Healthcare Group $1,132 37 -4 23
Abbott Laboratories $16,285 78 10 34
Oxford Health Plans $4,326 -7 -2 10
Baxter International $7,663 19 -10 116
Boston Scientific $2,673 85 -4 7
Industry Average $4,879 44 -1 23
HOME FURNISHINGS & APPLIANCES
Hon Industries $1,792 -1 -11 44
Herman Miller $2,236 28 -2 16
Maytag $4,324 63 11 27
Steelcase $3,090 41 -7 19
Whirlpool $10,343 42 -15 50
Industry Average $2,930 65 -4 24
INDUSTRIAL DIVERSIFIED
FMC $1,943 60 25 62
Graphic Packaging International $1,113 30 -17 19
3M $16,079 87 -6 17
PPG Industries $8,169 47 -8 56
Danaher $3,782 73 -14 23
Industry Average $7,674 103 10 31
MEDICAL & BIOLOGICAL TECHNOLOGY
Amgen $4,016 65 10 12
Biogen $1,043 44 3 18
Quest Diagnostics $3,628 -10 7 66
Guidant $2,708 113 5 8
Medtronic $5,552 115 -9 14
Industry Average $2,544 99 2 19
PHARMACEUTICALS
Eli Lilly $11,543 58 -4 20
Schering-Plough $9,802 62 12 40
Bristol-Myers Squibb $19,423 72 -4 30
Johnson & Johnson $33,004 53 -13 31
Merck $47,716 28 -5 39
Industry Average $16,888 72 -6 30
RETAILERS
Blockbuster $5,157 -13 0 38
Hollywood Entertainment $1,380 -20 14 44
Starbucks $2,649 25 -9 18
American Eagle Outfitters $1,372 19 -5 10
Abercrombie & Fitch $1,365 32 -4 9
Industry Average $9,885 49 -1 29
TECHNOLOGY
Microsoft $25,296 36 1 17
Maxim Integrated Products $1,577 50 -19 23
Veritas Software $1,492 35 -7 8
Intel $26,539 43 -1 24
Adobe Systems $1,230 33 -1 9
Industry Average $7,058 58 -5 31
TEXTILES & APPAREL
Unifi $1,131 63 -11 32
Timberland $1,184 68 5 13
Tommy Hilfiger $1,881 78 3 7
Liz Claiborne $3,449 65 0 25
Jones Apparel Group $4,073 67 2 19
Industry Average $2,723 83 -9 21
DPO INVENTORY
CHANGE INVENTORY CHANGE
COMPANY ’01-’02 TURNS ’01-’02 DSO
AEROSPACE
Boeing -1 7 1 32
L-3 Communications -10 0 0 0
General Dynamics 2 0 0 30
Goodrich -2 4 0 50
Northrop Grumman 0 4 -7 74
Industry Average -2 6 -1 50
AUTOMOBILES (MOTOR VEHICLES & PARTS)
Ford Motor 3 22 4 5
Borgwarner 7 13 0 32
General Motors 1 14 1 11
Tower Automotive 19 19 3 32
American Axle & Mnfng Holdings -5 17 1 32
Industry Average 1 13 1 47
CHEMICALS
Air Products and Chemicals -6 10 0 58
Eastman Chemical -18 7 0 39
Praxair 0 11 0 61
E.i. DuPont de Nemours -3 4 0 58
Ecolab 7 4 -2 80
Industry Average -3 6 0 51
ELECTRICAL COMPONENTS &
EQUIPMENT
Gemstar-TV Guide International -34 0 0 105
Molex -18 7 1 64
AVX -7 3 0 41
American Standard -2 9 -1 49
Ametek 0 5 -1 65
Industry Average -10 9 1 59
FOOD & BEVERAGES
Coca-Cola -5 6 0 34
Pepsico -4 8 0 29
Anheuser-Busch -1 13 1 18
Campbell Soup 3 5 0 24
Coca-Cola Enterprises 3 14 -1 36
Industry Average 0 8 0 30
FOOD RETAILERS & WHOLESALERS
Publix Super Markets 0 13 0 3
Casey’s General Stores -1 30 -2 1
Whole Foods Market -2 15 2 4
Safeway -1 9 0 4
Pantry -2 26 4 4
Industry Average -3 15 0 9
FOREST & PAPER PRODUCTS
Rayonier -6 11 1 32
Bowater 19 7 -3 55
Louisiana-Pacific 1 10 3 18
Weyerhaeuser -1 8 0 27
Potlatch -4 8 2 33
Industry Average 0 9 0 33
HEALTH-CARE PRODUCTS & SERVICES
Apria Healthcare Group 3 12 0 52
Abbott Laboratories -2 4 0 63
Oxford Health Plans 0 0 0 3
Baxter International 11 3 0 71
Boston Scientific -2 3 1 51
Industry Average -1 22 -2 49
HOME FURNISHINGS & APPLIANCES
Hon Industries 1 24 7 33
Herman Miller -5 26 2 35
Maytag 6 7 -2 52
Steelcase -4 14 0 43
Whirlpool 6 7 0 53
Industry Average 0 10 1 50
INDUSTRIAL DIVERSIFIED
FMC 3 7 -2 83
Graphic Packaging International 6 10 1 19
3M -3 4 0 56
PPG Industries -2 6 1 63
Danaher -3 6 1 56
Industry Average -4 5 0 83
MEDICAL & BIOLOGICAL TECHNOLOGY
Amgen -2 1 0 45
Biogen 3 0 0 62
Quest Diagnostics -7 43 -3 51
Guidant 0 2 0 85
Medtronic -1 2 0 81
Industry Average -1 7 0 77
PHARMACEUTICALS
Eli Lilly -3 2 0 44
Schering-Plough 2 2 0 67
Bristol-Myers Squibb -4 4 1 74
Johnson & Johnson 5 3 0 51
Merck -3 8 1 40
Industry Average -3 3 0 60
RETAILERS
Blockbuster -6 12 4 11
Hollywood Entertainment -12 9 -6 8
Starbucks 5 9 1 12
American Eagle Outfitters -4 9 1 5
Abercrombie & Fitch -1 6 1 5
Industry Average -1 7 0 18
TECHNOLOGY
Microsoft 0 0 0 53
Maxim Integrated Products -6 3 0 35
Veritas Software -6 0 0 43
Intel -2 6 0 36
Adobe Systems -2 0 0 42
Industry Average -4 18 7 61
TEXTILES & APPAREL
Unifi 5 8 1 55
Timberland -4 5 1 41
Tommy Hilfiger 2 5 0 46
Liz Claiborne 2 4 0 38
Jones Apparel Group 1 4 0 35
Industry Average -4 4 1 41
DSO
CHANGE
COMPANY ’01-’02 CCE
AEROSPACE
Boeing -7 7%
L-3 Communications 0 7%
General Dynamics 2 9%
Goodrich -13 29%
Northrop Grumman -1 6%
Industry Average -3 7%
AUTOMOBILES (MOTOR VEHICLES & PARTS)
Ford Motor -5 14%
Borgwarner 8 8%
General Motors 0 5%
Tower Automotive -8 21%
American Axle & Mnfng Holdings 2 7%
Industry Average 1 7%
CHEMICALS
Air Products and Chemicals -7 19%
Eastman Chemical -6 8%
Praxair -3 20%
E.i. DuPont de Nemours -1 9%
Ecolab 27 15%
Industry Average -4 8%
ELECTRICAL COMPONENTS &
EQUIPMENT
Gemstar-TV Guide International -45 14%
Molex -21 18%
AVX -15 22%
American Standard -1 7%
Ametek 15 6%
Industry Average -9 8%
FOOD & BEVERAGES
Coca-Cola 2 20%
Pepsico -1 16%
Anheuser-Busch 0 18%
Campbell Soup -1 17%
Coca-Cola Enterprises 4 7%
Industry Average -2 8%
FOOD RETAILERS & WHOLESALERS
Publix Super Markets 0 7%
Casey’s General Stores 0 4%
Whole Foods Market 0 8%
Safeway 0 7%
Pantry 1 3%
Industry Average 0 4%
FOREST & PAPER PRODUCTS
Rayonier -3 21%
Bowater -1 15%
Louisiana-Pacific 2 6%
Weyerhaeuser -3 8%
Potlatch -5 5%
Industry Average -3 9%
HEALTH-CARE PRODUCTS & SERVICES
Apria Healthcare Group 0 21%
Abbott Laboratories 5 22%
Oxford Health Plans -2 14%
Baxter International -2 15%
Boston Scientific 1 18%
Industry Average -2 9%
HOME FURNISHINGS & APPLIANCES
Hon Industries -5 13%
Herman Miller -7 9%
Maytag 9 9%
Steelcase -11 10%
Whirlpool -8 10%
Industry Average -3 8%
INDUSTRIAL DIVERSIFIED
FMC 19 6%
Graphic Packaging International -6 14%
3M -7 19%
PPG Industries -3 13%
Danaher -12 16%
Industry Average 8 10%
MEDICAL & BIOLOGICAL TECHNOLOGY
Amgen 6 37%
Biogen 6 30%
Quest Diagnostics -1 13%
Guidant 1 25%
Medtronic -7 33%
Industry Average 1 20%
PHARMACEUTICALS
Eli Lilly -10 32%
Schering-Plough 14 26%
Bristol-Myers Squibb 1 28%
Johnson & Johnson -5 27%
Merck -8 19%
Industry Average -2 18%
RETAILERS
Blockbuster -3 27%
Hollywood Entertainment 1 20%
Starbucks 0 17%
American Eagle Outfitters -5 13%
Abercrombie & Fitch 1 17%
Industry Average 1 6%
TECHNOLOGY
Microsoft 1 53%
Maxim Integrated Products -25 51%
Veritas Software -13 38%
Intel -9 33%
Adobe Systems -4 34%
Industry Average 10 14%
TEXTILES & APPAREL
Unifi -5 13%
Timberland 6 8%
Tommy Hilfiger 5 10%
Liz Claiborne 7 10%
Jones Apparel Group 0 14%
Industry Average -3 8%
RELATED ARTICLE: Where the Money Comes From
ASSET-BASED SECURITIZATION (ABS) allows companies to lower working capital without pressuring customers, but the way companies record it is increasingly under scrutiny. Unlike factoring, which involves a complete transfer of risk (and carries a higher premium as a result), companies that securitize their receivables typically remain on the hook for their collection.
“The ABS was a low-cost alternative to traditional financing,” says Lear Corp. CFO David C. Wajsgras. Yet Lear records its “proceeds from sales of receivables” under the “cash flow from operations” section of its cash-flow statement.
Plexus, by contrast, recorded its $23 million securitization under “cash flow from financing.” Plexus CFO and COO Tom Sabol says the way companies report securitization varies widely. “Some people view that as part of operations because it relates to receivables, but it is really a borrowing facility. That is how we view it. We believe it is an off-balance-sheet borrowing facility.”
The Securities and Exchange Commission has said it would like to see the Financial Accounting Standards Board develop stricter rules for use of the cash-flow statement, a request that will no doubt receive added attention in light of WorldCom’s restatement.
How They Measure Up
THE MANAGEMENT of working capital combines two measures, weighted equally:
1. Days of Working Capital (DWC) = (Receivables + Inventory – Payables)/(Sales/365 Days). If payables exceed the sum of receivables and inventory, DWC is negative.
2. Cash Conversion Efficiency (CCE) = Cash Flow from Operations / Sales.
These two measures are used to calculate an overall ranking for the entire survey group, which allows the companies to be ordered in their respective industry sector. The overall ranking: (Highest Overall CCE – Company CCE) (Highest Overall CCE – Lowest Overall CCE) + (Lowest Overall DWC – Company DWC) / (Lowest Overall DWC – Highest Overall DWC). Days sales outstanding (DSO), inventory turns, and days payable outstanding (DPO) are not part of the overall ranking critena. Industry averages consider all companies in an industry, not just the top five.
Sources: REL consultancy Group, Piranha Web
The tables identify the top five performers in 15 industries selected by CFO magazine. The complete set of tables, including additional industries and all companies surveyed, is available on CFO.com. Go to www.cfo.com/workingcapital. To benchmark your company using REVS methodology go to www.relconsult.com.
TIM REASON (TIMREASON@CFO.COM) IS A STAFF WRITER AT CFO.
COPYRIGHT 2002 CFO Publishing Corp.
COPYRIGHT 2002 Gale Group
