• Board Perspectives: Is the organisations cash conversion cycle balanced to avoid CASH GAPS?


    System or



    Credit Reports

















    Positive CCC indicates cash outflow   greater than cash inflow.


    Therefore even the board has not   foreseen that inventory is ‘losing’ the business 10 days cash flow  as they have only balanced the contractual   terms regarding customers and suppliers.


    Unfortunately the internal systems   like many external reports reflect an arithmetic calculation that seems to   reflect a more negative picture.


    The reality column highlights the   fact that cash is out of balance by almost month (over a month in working   days) which suggests significant liquidity issues in the short term and maybe   funding gaps in the longer term.


    Working Capital (defined as Current Assets less Current liabilities) has recently had Capital Expenditure added to its definition (by the Association of Corporate Treasurers) as this too is be financed by borrowings, shareholders’ funds, or a combination of both of them. The important piece to remember, is, that cash flows into the company from trade debtors and out of the company via trade creditors and in the latter we include all materials, services, expenses and capital items.

    Strategy is defined by the Oxford dictionary as the ART of war, management of an army, the ART of moving and disposing of troops, ships, aircraft as to impose upon the enemy the place and time and conditions for fighting preferred by oneself.

    If we translate this into business language then strategy could be defined as a single set of complementary activities that delivers superior value to customers and compelling value to shareholders through the exchange of cash.

    The complementary activities can be defined as debtors (customers), stock, work in progress (i.e. current assets) plus tangible/intangible assets less creditors (suppliers) (i.e. current liabilities)

    We now need to appreciate the strategy that will keep these inbound and outbound flows of cash aligned so that they balance each other at the very least at preferred points in time, namely when investors require payment of interest/charges on their loans, covenants  and dividends on their share purchases or indeed total repayment of all debt and equity. Hence balancing debt and equity is another challenge.

    Failure at any point not to balance these complementary activities could cause liquidity gaps (cash shortfalls) and sometimes funding gaps where cash shortfalls requires injection of more capital via debt or equity.

    So for each business a unique strategy will be required to deliver a Cash Conversion Cycle activity that ensures the inbound and outbound flows of cash remains negative which, counter-intuitively, means a positive cash flow. In simple trading working capital terms this is described as DSO +DIO –DPO where days sales outstanding plus days inventory held less days payables outstanding equates to the cash conversion cycle. (more…)

    The quadrants for organisational growth are determined by addressing the areas that impact Trade working Capital, namely:

    1)      Organic-Reviewing internal efficiency and effectiveness of your cash conversion cycle could reveal significant saving in costs but more importantly will identify real customer and supplier profitability and cash challenges.

    2)      Innovation-Development of products, services or taking on a new project can generate large cash imbalances that may require ‘cash mountains and/or war chests’ to be utilised

    3)      Disposals, merger and/or acquisition will require appreciating the granularity of customers and suppliers of all parties concerned. Supply and demand chains may require reassessment.

    4)      Strategic execution and delivering on strategic pre-agreed goals may require cultural issues to be addressed and re-alignment of the organisation which can threaten the investment portfolio as investor’s involvement and timing within the cash cycle is paramount.

    Working Capital Optimisation leads to the ‘unique’ area held within the treasury function that is named ‘risk management and mitigation’. It is vital to the organisation that it has visibility of the flows of cash through the working capital area i.e. suppliers who are not paid in accordance with contractual terms could be the critical ones being impacted by Basel lll and the credit ratings issues discussed in previous blogs. Customers who face issues with renegotiating their covenants or servicing their debt could default on their invoices.

    Treasurers need to become business partners with all functions of the organiastion to ensure their active engagement reduces and mitigates risk in each of the four key areas namely, debtors,suppliers,stock and work in progress.

    Furthermore disposals of businesses and/or mergers and acquisitions will require treasury functions to have an in-depth knowledge and understanding of the working capital requirements of all parties involved including major customers, suppliers, and their stock and work in progress valuations.

    The challenge for treasury is therefore wider than just their organisations working capital. They will also have the skill set to appreciate the rating and funding issues that need tackling as certain strategies could lead to liquidity or worse still, funding chasms, if working capital optimisation is not undertaken as a strategy for the organisation as a whole.

    Posted on: July 25, 2013 by: mardle0312

    One could be forgiven for thinking that ones’ accounting training had made it obvious that trade debtors, stock and work in progress are assets and that trade creditors are liabilities.

    However a quick review of recently announced consultative documentation from:

    a)      The International Accounting Standards Board (IASB)

    b)      The Association of Corporate Treasurers (ACT) wiki

    c)       The introduction of FRS102 in 2015

    d)      The recently announced Standard and Poor’s rating review consultation by September 2013

    e)      and last month’s High Court Ruling concerning Balance sheet Solvency Tests

    And one could be in for a ‘surprise’ as the definitions vary but let me be controversial and suggest:

    1)      Trade debtors are liability until they are fully paid

    2)      Stock not only has an overhead, freight, disposal and sometimes land fill tax cost but deteriorates in respect to its original condition and/or original premise of being an asset to be sold so could be a cash liability.

    3)      Work in Progress could be very subjective, particularly if percentage of completion is involved, could consist of unbillable costs or contain ‘hidden’ accounts so could cause revenues and profits to be detrimentally impacted

    Trade creditors though in accounting terms are recorded as a liability could be an asset. Why?

    Suppliers have invested their own cash in supporting you and they have driven costs down so that you have improved margins and in these tough debt driven times they may still be willing to adopt supply chain finance schemes like dynamic discounting.

    Maybe it is about time we all looked at Trade Working Capital in a different light?

    The credit crunch has morphed into the cash crunch where the standard view of ‘return on your investment’  has been restated as ‘return OF your investment’ where a shareholder, investment manager, director ,supplier, customer and even employees are keen to understand if the company is doing well in the management of its cash. Thinking about your business how would you reassure these parties that cash is at the heart of the business?



    a)      Identify areas for improvement in cash namely collecting cash quicker, paying suppliers on time.

    b)      Ensure all Capital expenditure meets with sustainable return on investment criteria

    c)       Dividends improve over the medium term

    d)      Debt is repaid in accordance with contractual terms.

    Early 2014 will see the introduction of the Single European Payments Area (SEPA) and the roll-out of Basel III throughout the Eurozone. Corporates have $3trillion (according to Moody’s) of debt maturing by June 2014.

    These three areas dramatically alter the landscape with regards to trade working capital and where cash can be managed in a proactive manner. Can treasury functions cope?

    A) With regards to SEPA treasury can deliver processes to ensure 34 alphanumeric BIC/IBAN code is understood by all suppliers and customers

    B) Basel lll introduces higher levels of capital for banks and lending costs are set to dramatically increase so treasury need to measure, monitor and mitigate the risks to their organisation, its suppliers and its customers. With any disposal of assets, merger or acquisition treasury will need to manage working capital carefully for all parties.

    c) Although corporate entities may have strong balance sheets with ‘surplus’ cash ($3trillion) shareholders demand higher dividends (Apple lawsuit), banks require payment of debt quicker and suppliers require prompt payment of invoices. Treasury need to balance these expectations.

    Posted on: July 22, 2013 by: mardle0312

    Please note we are understanding the make-up of balance sheet items that are prone to persistent date driven challenges namely a deadline of say 30th of the month and could be impacted by seasonal matters re Christmas and timing issues driven by sector nuances re payment holidays in the construction sector around times of inclement weather.

    How to budget and forecast receivables:

    Taking the organisations backlog of sales yet to be satisfied and predict each sector, product line, project and/or contract over a predetermined and fully agreed value, then one should ‘age’ the receivables in a manner appropriate to the terms and conditions applied as well as credit history. New customers, contracts, projects and newly promoted financing solutions re factoring, securitisation should be borne in mind.

    How to budget and forecast payables: the same as for receivables above but one should appreciate any contractual issues that could skew the predictions i.e. dynamic discounting, discontinuance of a supplier, supply chain etc.

    How to budget stock: Linking the sales and purchases above and understanding their flow through the inventory area is critical in predicting the level of stock items held. Obviously picking high and highest value items as well as understanding storage and logistical issues are paramount.

    How to budget and forecast WIP: as with stock a thorough appreciation of the above areas plus system driven values i.e. percentage of completion method on long term contracts is required

    How to budget and forecast CAPEX: Capital expenditures are included in this area as it could be a drain on the operational cash flow. This area should be well defined in business and finance guidelines and licence taken of the fact that these items could be leased, purchased with large upfront payments, tranche payments and high exit penalties.

    As one can see from the above this area is ‘unique’ to each business and should be regarded as an ‘art not a science’ and broad brush calculations should be undertaken that are formulated on well-known and trusted criteria. Comparisons to actuals should again be taken ‘with a pinch of salt’ as the aim is to understand liquidity gaps i.e. short term operational cash injection to cover a shortfall i.e., securitisation or factoring of debt , supply chain financing and/or funding gaps where the requirement is to obtain new financing from particular sources like banks, Venture capitalists, shareholders etc.


    Posted on: July 14, 2013 by: mardle0312

    Re(sources) of cash

    The sources of cash are numerous and can vary by types of business and types of funding required.

    If working capital for growth is required then maybe factoring or securitisation under the Trade Finance heading could help. Assistance for the purchase of a capital item like equipment could come from a private equity, venture capitalist but one might have to sacrifice equity.

    However these suggestions should only be undertaken if one has understood your cash resources.

    Your resources are within the area commonly identified as working capital, and defined as current assets less current liabilities. In other words do you have your cash conversion cycle under control through receivables being collected in total and promptly, stock and work in progress being managed at optimum levels and suppliers being paid in line with agreed contractual terms?

    With a 12 month financial budget and a management accounting rolling forecast that incorporates 9 months past and 9 months future cash flows from Trade working Capital a business can be sure of mitigating critical cash risks.

    The financial budget aspect delivers the demand and supply chain figures that can then drive the receivables, payable, stock and WIP figures that once analysed can then form the basis for the Trade Working Capital requirements with a focus on cash. One can also include capital expenditures to deliver a full Working Capital picture. The Budget for Trade Working capital could reflect the situation as agreed at the Budget Approval Date with ‘the situation’ reflecting expected dates of amendments to working capital initiatives.

    The management accouting rolling forecast can then deliver comparative figures that reflect the previous and the future 9 months cash flow with an emphasis on understanding trends, anomalies and possibly seasonal issues i.e Christmas or summer season trading.

    The rolling forecast for Trade Working Capital and Capex will need to be continuously adapted to any strategies that are expected to be delivered i.e. discounts in the sales and promotional areas, stock lines being amended, removed or increased, work in progress being invoiced differently and with regards to suppliers and supply chain strategies i.e. new PO term, new suppliers, winding down of supply lines or indeed the introduction of a dynamic discounting structure.

    Comparisons between these two approaches and the actual results, produced at least monthly, should provide Treasury and Board management with the picture with regard to whether ‘headroom’ is sufficent when looking at funding streams or if trade working capital targets need to be reviewed.