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The Cash You Need May Already Be On Your Balance Sheet

by Barry Jaruzelski, Conrad Winkler, Eric Dustman, and Lee Talbert

In these illiquid times, cash is in short supply, yet there is up to $950 billion of excess working capital on corporate balance sheets that could be converted to cash.[1] This discontinuity is particularly striking, because risk premiums are at extraordinary and historic levels, where the market is even willing to provide liquidity (Exhibit 1). Even for the strongest companies, analysts and bankers are sending a clear message: “Plan to meet cash requirements from operations, and don’t count on the credit windows being open—even for you.”

Exhibit 1

Spread Between 90-Day A2 / P2 Nonfinancial Commercial Paper and 3-Month Treasury Bill
(1998-2008 Monthly Data)

To help companies answer this question and assess relative opportunities, Booz & Company has created a working capital profiler that assesses performance relative to an industry peer group of U.S. companies with sales over $1 billion. The profiler quickly calculates an organization’s ranking in managing balance sheet assets—receivables, payables, and inventory—against comparable enterprises with similar assets and cost-of-capital. Organizations can use the profiler to determine the incremental cash released through performance improvement. In many cases, moving to the top quartile could mean a doubling (or greater) in a company’s current cash position, and achieving “best-in-class” performance could be worth substantially more.

Once an opportunity has been identified, the next challenge a senior executive faces is how to actually capture this value—i.e., convert it to cash. Typically, an organization will devote functional specialists (e.g., sales for accounts receivable, procurement for accounts payable, and operations for inventory) to drive working capital improvement initiatives; unfortunately, functional or piecemeal efforts often fail because they miss the root causes and key cross-functional interdependencies of poor working capital performance.

For example, an attempt to improve a company’s payables policy can result in increased minimum purchase requirements, disadvantaged inventory transfer points, and/or price increases. Thus, what was won in one functional domain (payables) spills over as a loss to another (inventory). Or, focusing on inventory reduction without regard for customer service commitments can lead to invoice disputes, which can stretch accounts receivable performance. In short, piecemeal or siloed working capital improvement initiatives fail because they squeeze the balloon, rather than releasing the air that is excess cash.

Over the years, Booz & Company has helped many clients avoid these pitfalls through a comprehensive approach to working capital improvement. We have developed a framework that assesses inherent, structural, systemic, and realized costs (ISSR), enabling an executive team to size the value of the quick wins that drive top quartile performance and understand the level of effort required to achieve “best-in-class” performance over the longer term.

The ISSR methodology takes a top-down view to transcend the functional myopia that plagues so many working capital improvement initiatives. Practical experience shows that this approach is effective in overcoming functional tensions within an organization (e.g., purchasing, manufacturing, materials management, sales, finance, and product design), and as a result drives sustainable value—short-term cash. Furthermore, it minimizes the risk of backsliding seen so often following functionally siloed initiatives.

ISSR Framework for Working Capital

Regardless of how the current economic conditions started, the road ahead will be difficult. It’s incumbent upon leaders to not only manage but to enhance their balance sheets during this challenging period. Given the amount of excess cash on corporate balance sheets, there appears to be ample opportunity for substantial improvement.

Working Capital Profile

Visit our Working Capital Profiler to see how your company’s working capital performance compares with industry peers, and determine how much cash you can unlock from working capital.
 

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[1] 2009 Booz & Company analysis; value represents cumulative industry normalized cash conversion cycle improvement to top-quartile for nonfinancial North American listed companies of >$1B/yr