Tatum Senior Executive Networking Group, April 16, 2008, V3.0

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Working Capital Management, Cash-to-Cash Cycle Time

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Tatum Senior Executive Networking Group, April 16, 2008, V3.0

  1. 1. Senior Executive Networking Group – New England “Early Warning Signals – What Every Senior Executive Needs to Know” April 16, 2008 © 2008 Tatum, LLC All rights reserved.
  2. 2. TATUM IS THE LARGEST AND FASTEST-GROWING EXECUTIVE SERVICES FIRM IN THE UNITED STATES HELPING COMPANIES IN TRANSITION TO ACCELERATE BUSINESS SUCCESS AND CREATE MORE VALUE © 2008 Tatum, LLC All rights reserved. 2
  3. 3. MAJOR BUSINESS TRANSITION OR LIFE-CYCLE STAGES INCLUDE: TEMPORARY LOSS OR NEED TO AUGMENT FINANCIAL OR TECHNOLOGY  LEADERSHIP CHANGES IN CAPITAL STRUCTURE  HIGH GROWTH  UNDERPERFORMANCE  MERGER OR ACQUISITION  © 2008 Tatum, LLC All rights reserved. 3
  4. 4. Tatum’s National Footprint 37 Offices ~1000 Professionals © 2008 Tatum, LLC All rights reserved. 4
  5. 5. “Early Warning Signals – What Every Senior Exec Needs to Know” What are Early Warning Signals How to interpret them How to employ them to your advantage © 2008 Tatum, LLC All rights reserved. 5
  6. 6. “Early Warning Signals – What are they?” Operating Cash Flow % Revenue Cash Conversion Efficiency Return on Non-Cash Working Capital (ROWC) Operating Profit / (A/R + Inventory – A/P) Working Capital Efficiency Cash-to-Cash Cycle Time (C2C) Working Capital Efficiency --- in an actionable way Indicators of where cash is and isn’t © 2008 Tatum, LLC All rights reserved. 6
  7. 7. Other Important Indicators Return on Assets Return on Capital Employed Altman Z-Index or Z-Score (Bankruptcy Indicator) All are good performance measures, but it generally takes longer to affect them © 2008 Tatum, LLC All rights reserved. 7
  8. 8. OPERATING CASH FLOW % REVENUE © 2008 Tatum, LLC All rights reserved. 8
  9. 9. What’s Goodness? D D Industry 2006 2005 Industry 2006 2005 Biotechnology 23% 27% -4% Computers & Peripherals 11% 13% -2% Pharmaceuticals 23% 21% 2% Household Products 11% 12% -1% Semiconductors & Semi Equip 22% 21% 1% Industrial Conglomerates 11% 15% -4% Diversified Telecommunications 21% 22% -1% Metals and Mining 10% 12% -2% Communication Equipment 19% 20% -1% Airlines 9% 8% 1% Energy Equipment & Services 18% 15% 3% Chemicals 9% 8% 1% Electric Utilities 17% 16% 1% Aerospace and Defense 8% 10% -2% Multi-Utilities 15% 11% 4% Food Products 8% 9% -1% Independent Power Producers 14% 9% 5% Machinery 8% 8% 0% Road & Rail 14% 15% -1% Paper & Forest Products 6% 7% -1% Beverages 13% 15% -2% Electronic Equip & Instruments 4% 5% -1% Gas Utilities 13% 8% 5% Food & Staples 3% 3% 0% Household Durables 3% 4% -1% 1,000 largest public companies with US HQ Source: 2007 REL/CFO Cash Masters Scorecard, CFO Magazine, Dec. 2007 © 2008 Tatum, LLC All rights reserved. 9
  10. 10. Who Improved? Declined? D D Industry 2006 2005 Industry 2006 2005 Independent Power Producers 14% 9% 5% Machinery 8% 8% 0% Gas Utilities 13% 8% 5% Food & Staples 3% 3% 0% Multi-Utilities 15% 11% 4% Road & Rail 14% 15% -1% Energy Equipment & Services 18% 15% 3% Household Products 11% 12% -1% Pharmaceuticals 23% 21% 2% Food Products 8% 9% -1% Semiconductors & Semi Equip 22% 21% 1% Electronic Equip & Instruments 4% 5% -1% Electric Utilities 17% 16% 1% Household Durables 3% 4% -1% Airlines 9% 8% 1% Diversified Telecommunications 21% 22% -1% Chemicals 9% 8% 1% Communication Equipment 19% 20% -1% Paper & Forest Products 6% 7% -1% Beverages 13% 15% -2% Metals and Mining 10% 12% -2% Computers & Peripherals 11% 13% -2% Aerospace and Defense 8% 10% -2% Industrial Conglomerates 11% 15% -4% 1,000 largest public Biotechnology 23% 27% -4% companies with US HQ Source: 2007 REL/CFO Cash Masters Scorecard, CFO Magazine, Dec. 2007 © 2008 Tatum, LLC All rights reserved. 10
  11. 11. CASH-TO-CASH CYCLE TIME (C2C) © 2008 Tatum, LLC All rights reserved. 11
  12. 12. C2C: Definition C2C – # days from day of payment for purchases to day of collection from customer Cash-to-Cash 2 1 IDS DSO 3 Smaller = Better DPO Days of Sales Outstanding (DSO): # of days it takes for a customer to pay. 1. 365 * (Ave A/R, last 4 qtrs) / (Annual Sales or Sales last 4 quarters) Inventory Days of Supply (IDS): # of days of inventory in the company. 2. 365 * (Ave Inv, last 4 qtrs) / (Annual COGS or COGS last 4 quarters) Days of Payables Outstanding (DPO): # of days for an inv purchase to be paid. 3. 365 * (Ave A/P, last 4 qtrs) / (Annual COGS + D Inv; or COGS + D Inv last 4 qtrs) DSO + IDS – DPO = C2C © 2008 Tatum, LLC All rights reserved. 12
  13. 13. C2C: What’s Goodness? C2C: 2007 Aberdeen Group Working Capital Optimization Study Definition of past 2 years Maturity C2C Return on Capital Average C2C Class > = < > = < Best in Class 11 Days 92% 8% 0% 90% 10% 0% Top 20% Industry Ave 54 Days 54% 45% 1% 58% 38% 4% Middle 46% Laggards 64 Days 18% 53% 29% 3% 45% 52% Bottom 35%  Supply Chain and Financial Management Maturity of 400 companies surveyed  Best in Class C2C for top 20% of companies (~80) was 11 days!  %’s above indicate % of companies, by maturity class, whose C2C & ROWC improved, stayed the same, or declined over the past 2 years. © 2008 Tatum, LLC All rights reserved. 13
  14. 14. C2C: Why so useful? Effective Short Term Measure of Working Capital Performance Measured in Days not $: Easy to Remember Easy to Benchmark; Improvement is easy to quantify: 1 Day of W/C typically > $100K C2C becoming more mainstream C2C Improvement Opportunities are Actionable © 2008 Tatum, LLC All rights reserved. 14
  15. 15. C2C: Becoming Mainstream HP “Our working capital 2007 2006 2005 requirements depend upon our effective management DSO 43 40 39 of the cash conversion IDS 34 38 35 cycle, which represents effectively the number of DPO (50) (59) (52) days that elapse from the C2C 27 19 22 day we pay for the purchase Cash Impact of D C2C of raw materials to the ($1,940M) $693M collection of cash from our + 8 Days - 3 Days customers.” Why is an 8 day Source: 2007 HP 10-K C2C decline important? © 2008 Tatum, LLC All rights reserved. 15
  16. 16. C2C: Becoming Mainstream Dell “Our direct business model 2007 2006 2005 allows us to maintain an DSO 31 29 27 efficient asset management system in comparison to our IDS 5 5 4 major competitors. We are DPO (78) (77) (73) capable of minimizing inventory risk while collecting C2C (42) (43) (42) amounts due from customers Cash Impact of D C2C ($183M) $80M before paying vendors, thus + 1 Day - 1 Day allowing us to generate annual Why is an 1 day cash flows from operating C2C decline activities that typically exceed Source: 2007 Dell 10-K important? net income.” © 2008 Tatum, LLC All rights reserved. 16
  17. 17. C2C: Becoming Mainstream Why are HP and Dell highlighted? Recognizable co’s who have embraced and achieved C2C excellence. Demonstrate that cash value of a day of working capital is significant Demonstrate why C2C improvements are valuable when: ―margins are under competitive pressures! © 2008 Tatum, LLC All rights reserved. 17
  18. 18. C2C: Becoming Mainstream What is C2C for IBM? Apple? IBM and Apple do not specifically mention C2C in their annual stockholder filings. However their recent C2C performances clearly indicate: ― They closely manage their working capital and ― Find it strategically and tactically important to continually find greater efficiencies in their cash conversion cycles. 2007 C2C: ― IBM; 6.4! ― Apple: (58.2)! © 2008 Tatum, LLC All rights reserved. 18
  19. 19. C2C: Becoming Mainstream C2C can also be used for software and service companies who don’t have inventory! While processes for providing services aren’t required by GAAP to be “costed and capitalized” as with companies with inventory and manufacturing activities, These processes can still be analyzed in a C2C-like fashion. Examples of Processes used: ―Insurance Company: (Claims and New Customer Appraisal / Renewal) ― 3rd Party Healthcare Provider: (Receivables optimization) ―Any service provider: (Warranty Services, Returns, CRM) © 2008 Tatum, LLC All rights reserved. 19
  20. 20. C2C: Actionable by Benchmarking C2C can also be an actionable metric; To quantify cash opportunities! To indicate potential business processes which can yield cash opportunities. How? Through Benchmarking or “Show me the money!” © 2008 Tatum, LLC All rights reserved. 20
  21. 21. VALCOmeter™ 2007 Share of Market of Selected Companies Analyzed The value of cash opportunities Industry Classification Company Ticker Latest Fiscal Pd Zoll Medical ZOLL Med Appliances and Equipment Oct-06 (Select Company Above) # of Fiscal Periods Analyzed 5 YEARS Total Rev $ of Market for Co's Selected $ 6,656,766 Quartile 1 Quartile 2 Grwth % % of Total Grwth % % of Total Company Rev $K Company Rev $K Invacare Corp 1,498,035 8.5% 22.5% 1 Conmed Corp 646,812 9.3% 9.7% Steris Corp 1,197,407 5.4% 18.0% 2 Hologic 462,680 26.5% 7.0% 3 DJO Incorporated 413,058 23.5% 6.2% 4 Datascope 373,000 4.1% 5.6% 5 17 18 19 20 Qtle 1 Total Rev 2,695,442 40.5% Qtle 2 Total Rev 1,895,550 28.5% Quartile 3 Quartile 4 Grwth % % of Total Grwth % % of Total Company Rev $K Company Rev $K Greatbatch, Inc. 271,142 13.7% 4.1% 1 Cyberonics, Inc. 130,968 6.2% 2.0% Arthrocare Corp 263,001 31.3% 4.0% 2 Palomar Medical Technologies, Inc. 126,544 49.9% 1.9% Symmetry Medical, Inc. 253,569 44.9% 3.8% 3 Volcano Corporation 103,048 31.3% 1.5% Zoll Medical 248,849 13.8% 3.7% 4 Aspect Medical Systems 91,334 23.5% 1.4% Align Technology 206,354 34.1% 3.1% 5 Cynosure, Inc 78,401 42.7% 1.2% Candela Corp 149,466 25.0% 2.2% 6 The Spectranetics Corporation 63,490 23.8% 1.0% 7 Micrus Endovascular Corp 58,795 56.3% 0.9% 8 Nxstage Medical, Inc. 20,812 341.4% 0.3% 9 19 20 Qtle 3 Total Rev 1,392,381 20.9% Qtle 4 Total Rev 673,393 10.1% Zoll Medical and shaded companies are HQ’d in MA © 2008 Tatum, LLC All rights reserved. 21
  22. 22. Cash to Cash (C2C) Conversion Cycle Val ue of C ash O pportunities Industry Classification Company Ticker Latest Fiscal Pd # - Fiscal Periods Analyzed Zoll Medical ZOLL Med Appliances and Equipment Oct-06 5 YEARS C2C Performance Value of C2C Conversion Cycle Improvement Opportunities Working Capital Movement to Median of next Median DSO, 1 Day reduction IDS D Days Current Quartile Current DSO Savings in $K Quartile Days in $K 78.3 Qtle 4 Quartile 3 68.0 681.8 -10.3 $ 7,029 + Working Capital Movement to Median of next Median IDS, 1 Day reduction DSO D Days Current Quartile Current IDS Savings in $K Quartile Days in $K 127.3 Qtle 3 Quartile 2 95.6 297.4 -31.7 $ 9,437 - Working Capital Movement to Median of next Median DPO, 1 Day reduction DPO D Days Current Quartile Current DPO Savings in $K Quartile Days in $K 38.8 Qtle 3 Quartile 2 54.1 293.3 15.3 $ 4,476 = Improving C2C performance to median of the next best quartile, reduces C2C by 57 C2C D Days Total C2C New C2C Total $K Savings days or identifies potential cash release of 166.9 109.6 (57.3) $ 20,942 $21M! ROWC improves from 19% to 35%! Current Quartile ROWC D % Current ROWC New ROWC 18.8% Qtle 2 25.5% 35.5% © 2008 Tatum, LLC All rights reserved. 22
  23. 23. C2C: Actionable by Benchmarking Client comparison to Competitors and Targets Comp #1 Client Client Target Comp #3 Comp #4 Comp #5 DSO 51 63 56 25 36 46 IDS 34 26 18 39 34 39 DPO 38 48 48 38 25 40 C2C 47 40 26 27 45 45 ROWC 53% 32% 61% -23% 68% 58% To equal $M Benchmarking & Client Target Value Target Setting can reveal the true worth DSO (6.5) $ (19) of the C2C metric. IDS (8.1) $ (19) DPO (0.0) $ (5) C2C (14.6) $ (33) In this case: $33M! © 2008 Tatum, LLC All rights reserved. 23
  24. 24. C2C: Actionable by Benchmarking In what cash improvement activities you have led or participated? © 2008 Tatum, LLC All rights reserved. 24
  25. 25. C2C: CAN RELIEVE WORKING CAPITAL PRESSURES © 2008 Tatum, LLC All rights reserved. 25
  26. 26. C2C: 2007 Aberdeen Group Working Capital Optimization Study 2/3 of 400 companies surveyed indicate outside (stakeholder) pressure, not internal management efforts were greatest reason to improve working capital performance! © 2008 Tatum, LLC All rights reserved. 26
  27. 27. C2C: 2007 Aberdeen Group Working Capital Optimization Study Focus today: Reducing Inv & DSO. Focus tomorrow: Innovators focusing on many other opportunities. © 2008 Tatum, LLC All rights reserved. 27
  28. 28. C2C: EASY TO MEASURE; DIFFICULT TO ACHIEVE © 2008 Tatum, LLC All rights reserved. 28
  29. 29. C2C: Easy to Measure, Difficult to Achieve Identification of Cash opportunities is relatively easy But what are the obstacles for realizing these cash opportunities? Typical Working Capital Improvement Efforts require Business Process Re-Engineering (BPR). BPR is often a difficult, frustrating, and long process as exemplified by Figure 1; 4 Phases of a Working Capital BPR project © 2008 Tatum, LLC All rights reserved. 29
  30. 30. C2C – The 4 Phases of a Work Cap D consulting assignment 1 – 4 weeks 2 - 3 months 3 - 6 months 3 - 9 months or longer Phase 4: Phase 1: Phase 2: Phase 3: Implementation C2C Business Process Business of New Benchmarking Documentation, Process Re- Processes and Review, & Design & Software Recommendations New Software Selection or > 3 mo’s until Existing specific Software understanding of Enhancements areas $ W/C improvements; > 9 mo’s until any $ W/C improvements are realized Figure 1: 4 Phases of Work Capital BPR project © 2008 Tatum, LLC All rights reserved. 30
  31. 31. C2C: Easy to Measure, Difficult to Achieve Working Capital BPR projects often require: Extensive documentation of the key functional areas of operations and finance; (see Figure 2: Operations and Financial Functional Areas) Mapping of documentation to Working Capital Processes DSO, IDS, & DPO; (see Figure 3: Mapping Processes to Working Capital Areas). © 2008 Tatum, LLC All rights reserved. 31
  32. 32. Figure 2: Operations & Financial Functional Activities Planning Forecasting Distribution Transportation Management Demand Management Customer Shelf Replenishment Master Scheduling Delivery Execution Management Inventory Management Order Consolidation Business Planning Pick, Pack, and Ship Capacity Planning Returned Goods Management Distribution Req'ts Planning System Installation Channel Sell-through Data analysis Sourcing Make vs. Buy (Supply Planning) Customer Accounts Receivable Collection Supplier Relationship Management Accounting Returns and Credit Management Procurement Production Material Requirements Planning Customer Product Service Agreements Production Planning Relationship Customer Requirements Planning Receiving and Incoming Inspection Management Customer Demand Information Sharing Material Conversion to Intermediate or End Products Product Life Cycle New Product Data Management Repair, Remanufacture, Ramp-up and Stabilization Management Recycling, and Disposal End-of-life Management Environmental Management Finance / Import/Export Management Order Management Order Creation and Capture Treasury & Supply Chain Financial Planning Order Scheduling Administration Cash Mgmt & Investment Planning Order Maintenance Banking Management Shipment Control Supply Chain Information Systems Customer Billing Performance Measurement Customer Inquiry Management Price or Availability Quotes Source: PRTM, Integrated Supply-Chain Performance Measurement © 2008 Tatum, LLC All rights reserved. 32
  33. 33. Figure 3: Mapping Processes to Work Cap Areas Business Process Working Capital Area to be Evaluated Areas of Evaluation 1) Collections history Customer Order 2) Shipment Quality Days Sales Outstanding to 3) Customer Order Process / Sales Forecast DSO Cash Collection 4) Sales / Customer IT systems 1) Forecasting / Order taking 2) Postponement & Inventory build signals 3) Demo equipment Cash Red’ns & Inventory 4) Eng Change Orders Cost Savings Inventory Days of Supply Forecast 5) Part #'s IDS to 6) Product design achieved from Customer 7) Inventory Obsolescence improvements in Delivery 8) Product Returns these opn’s areas! 9) Customer delivery Easy: C2C calculations 10) Shipment expediting 11) Mfg Information Technology Operating Systems Difficult: Assess and redesign of major C2C process areas 1) Supplier Reliability Days Payable Outstanding Supplier Order 2) Delivery Reliability DPO to 3) Vendor management Supplier Payment 4) Procurement coord w/ Customer/Product Demand 5) Procurement Information Technology Systems © 2008 Tatum, LLC All rights reserved. 33
  34. 34. C2C: Easy to Measure, Difficult to Achieve These BPR efforts take time and resources before any indication that change is necessary. Time, Resources, and Change are common and significant obstacles in achieving success. BPR efforts often indicate new / enhanced software is required. New or enhanced software also require significant time, significant resources, and significant management Often do not produce desired results, certainly not quickly © 2008 Tatum, LLC All rights reserved. 34
  35. 35. C2C: Easy to Measure, Difficult to Achieve Key Supplier and / or Customer profitability and working capital analyses can quickly Identify potential problems Target solutions and Realize cash Provide focused direction towards Major Re-Engineering efforts Can be completed in 6 - 8 weeks! © 2008 Tatum, LLC All rights reserved. 35
  36. 36. Objective: Rank Suppliers / Customers and determine drivers of performance High Adjusted Gross Margin Outcome High Adjusted Gross Margin High High or Positive Working Capital Low or Negative Working Capital Objective: Supplier / Adjusted Gross Margin Modify terms or Customer Protect inventory practices Profitability and ROWC Analysis Low Adjusted Gross Margin Low Adjusted Gross Margin Analysis Low or Negative Working Capital High or Positive Working Capital Duration: Drive volume; Keep terms & inv. practices ~ 6 - 8 weeks Low Working Capital Low High ROWC = (Gross Mgn – Inv handling , order fulfillment & storage costs) / (Inv + A/R – A/P) © 2008 Tatum, LLC All rights reserved. 36
  37. 37. C2C: SUMMARY © 2008 Tatum, LLC All rights reserved. 37
  38. 38. C2C: Early Warning Signal Great indicator of short term trends in operating efficiency Metric that is easy to remember and benchmark Easily opens conversation to specific operating areas and current operating practices Is actionable; offering significant Cash and Cost savings Analyze Customer or Supplier profitability and ROWC to Identify who is causing C2C problems and Target short-term improvements. © 2008 Tatum, LLC All rights reserved. 38
  39. 39. “Early Warning Signals – What Every Senior Exec Needs to Know” Questions? Call or Write: Richard Block, Financial Leadership Partner, Tatum LLC, 233 Needham Street, Suite 300, Newton, MA 02464. ― 617-928-1231 (office) ― 617-283-1001 (cell) ― 617-454-1088 (main) © 2008 Tatum, LLC All rights reserved. 39

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