Going with the Flow: Cash is Key (if not King)

This post is originally from The Protiviti ViewProtiviti, a subsidiary of Robert Half, is a global consulting firm that helps companies solve problems in finance, technology, operations, governance, risk and internal audit. The Protiviti View, the company’s blog, features commentary, insights and points of view on key challenges and risks facing companies today.

Our annual Finance Priorities Survey provides an insightful glimpse into business post-recession. Cash management and working capital, always a priority, have taken on even greater importance for chief financial officers and finance executives. Given the past six years and the scary recession experience itself, that shouldn’t be surprising.

The global financial crisis taught executives crucial lessons about liquidity and the importance of a financially stable supply chain. The upheaval froze roughly one-third of the credit mechanisms in the United States, according to some estimates, and triggered waves of defaults. Remember when we were kids and touched the hot stove even though our parents told us not to? For those that did, we all learned a powerful lesson that we never forgot. I know it’s trite to say, but the crisis taught us once again that cash is king!

To prevent subsequent internal liquidity crises, companies are, by necessity, becoming more sophisticated in their forecasting. A couple of years ago, Protiviti teamed with researcher APQC to study cash management practices at three leading global organizations. Recommendations from that study include:

  1. Aligning working-capital management with corporate strategy and providing executive support
  2. Centralizing and automating financial transaction processing
  3. Identifying specific working-capital goals and value drivers, and developing metrics to measure progress toward those goals
  4. Ensuring that all employees and contractors know how their actions affect working capital, and deploying benchmarking to make sure they know their efforts matter

One cash-management tradition we don’t endorse is to stretch out supplier payments. If we have learned anything in the past 20 years, it’s that the supply chain is a financial ecosystem. While extending supplier payments might help you in the short run, it just passes cash flow problems down the line to suppliers that may be less able to handle the financial pressure. At a minimum, this could lead to higher prices, as suppliers raise rates to compensate for higher borrowing costs. At worst, it could cause suppliers to fail from a lack of cash flow. In the end, the supply chain suffers. Bad answer.

A more sustainable approach is for buyers to help accelerate supplier cash flow by negotiating early payment terms, or enabling vendors to essentially “borrow” at the buyer’s lower credit cost via one of the many bank-sponsored supply chain finance arrangements.

Under such an arrangement, a buyer identifies invoices eligible for early payment, and a supplier reviews the pool of selected invoices and accepts the early payment offer. A bank, or other third party, then pays the invoices on the buyer’s behalf, using the buyer’s established credit.

The buyer would repay the bank under its regular credit terms (similar to a credit card purchase), effectively delaying payment without hurting the supplier. The supplier gets paid faster, minus an early payment discount; the bank collects the discount, which is more than it would have normally earned from the buyer’s on-time payment; and the buyer gets to hold onto its cash longer, and may earn a rebate from the bank, based on the volume of its credit transactions.

Such strategies typically involve sophisticated software with analytical tools that provide both buyers and suppliers with a better picture of their cash flow and potential costs/returns. But this type of arrangement is becoming common with the advent of lower-cost, easy-access cloud-based accounts payable/receivable solutions that are putting advanced cash management tools in the hands of the middle market.

Exciting times. I don’t know about you, but I can’t wait to see how it all plays out.

Sometimes, one of the best investments you can make is in the predictability and security of your supply chain. Are you collaborating with suppliers to improve your supply chain financial ecosystem? What has worked for you? Are you getting the results you expected?