As working capital increasingly becomes a top-level agenda item, businesses are struggling with the requirements of the Duty to Report legislation and finding that their data quality presents difficult challenges to their working capital strategy and their compliance.

These tough issues were discussed in the latest Working Capital Forum, held in October at the Institute of Directors in London’s Pall Mall, generously supported by Lloyds Bank. Chairing the forum was Mike Hewitt, CEO of the organisers, Adaugeo Media. Taking part were almost a dozen professionals from the world of treasury and procurement across a wide range of industries.

In this extended report: Buy-in for working capital strategyEducation, educationLloyds Bank Working Capital IndexDeploying SCFUK Duty to Report rulesData and benchmarking

Working capital is unquestionably becoming more and more important. Often, the trigger for that is when a company goes from being cash-rich to heavily geared, typically as a result of a major debt-financed acquisition.

“We’re trying to change our funding profile to match our working capital requirements, moving from a fixed committed funding line to more dynamic use of funds where we can adapt it based on what the requirements are,” said one participant from an industrial organisation.

“On the payables side, working capital is part and parcel of how we manage contracts and suppliers,” said another participant. “We also have programmes linked to inventories and to our customers. Our work on payables isn’t new but we’re now beginning to make it a more premier focus.”

That resonated with participants: “We are putting together more of a planned debtors/creditors strategy rather than it just falling out of what happens,” said one.

Another explained that their strategic emphasis was on trying to improve the company’s understanding of the drivers of working capital so as to improve forecast accuracy.

Terms standardisation and extension were common tools for payables management while a number of participants had either recently introduced supply chain finance or were seriously considering doing so in coming months. “There are good tools that create capabilities to improve your working capital,” observed one treasury professional, “but there are also some good disciplines you can apply.”

Llewelyn Mullooly, director of working capital at Lloyds Bank, noted that it’s often easier to get top-level buy-in for a working capital management programme when there is a major transformation taking pace in an organisation, such as a merger or acquisition. “In a low-interest rate environment, if you’re focussing on cash flow but you have access to cheap debt, then you never really get a clear business case for making the type of operational improvements that really improve working capital,” he said. “It can be easier to go to the bank and borrow at a very low rate than to improve your systems and processes.”

Having got that top-level support, however, a participant from one company – whose job title actually includes the words ‘working capital’ – said that the focus on free cash flow is such that there is now a weekly report to top management, with working capital being a part of that.

Education, education

One of the most important levers to help implement a successful working capital management strategy is to educate the rest of the business as to why this is important and why they need to be engaged. “There is a cost to the business of having working capital and when you get the business to understand that and the penny drops then you can make change very, very quickly,” said one finance professional, who suggested that drawing an analogy with the workings of household finances would help people understand why the timing of payments and receipts is important. “With our procurement team the penny dropped quite quickly. When you explain that there is a cost to working capital and that cost has an impact on their P&L, they then understand that if they can help bring down your working capital then they can spend more in other areas.”

That wasn’t a universally shared experience, unfortunately. “One of the things I’m seeing is that at the corporate centre we’ve had that understanding and knowledge – but the business units’ priorities are elsewhere, so they don’t care so much about what treasury thinks or what Corporate thinks,” said one participant. “There’s a misalignment as a result of that. We need to start educating the business so they understand how their decisions have a bearing and an impact on the group.”

It’s important to understand how people’s performance is measured and how they are remunerated, one participant observed: “Even if they are measured on working capital, a sales guy may say, ‘If I miss my DSO target I lose 10% of my bonus – but I still get 90% of it!’”

Equally important is to ensure that a new strategic emphasis on working capital actually sticks and is sustainable, rather than being a kneejerk reaction to a particular problem. “We really need to conserve cash,” said a participant. “What the corporate leadership wants is for working capital to not be something we look at just when we are firefighting. So this is really about how we change behaviour – change the way we work.”

The Lloyds Bank Working Capital Index

Llewelyn Mullooly of Lloyds Bank at the Working Capital Forum

The amount of money that British businesses have tied up in excess working capital rose by 7% to £535bn between the spring and the autumn of 2017, according to the Lloyds Bank Working Capital Index. This measures the pressure that businesses are under to either increase working capital or to increase liquidity. Sustained economic growth and the fall in the sterling exchange rate have put record pressure on UK businesses to increase the amount of money tied up in working capital, leaving them at risk if growth were to weaken in the months ahead. Businesses could struggle to free up cash either to grow or to weather turbulent financial conditions.

“Because of the Brexit environment and the fall in sterling, British businesses are seeing a historic build-up of pressure to have higher working capital,” said Llewelyn Mullooly, director of working capital at Lloyds Bank. “With sterling weakening, smaller companies have gone out and forward purchased inventory and it’s caused the fastest build-up of inventory for manufacturers in the UK for more than 17 years. Companies are holding a safety buffer.”

Working capital pressures are further increased as 1-in-4 companies reported that their customers are taking longer to pay, as well. “British businesses generally are looking into this uncertain environment, are building up inventory levels at a time when there is falling financial conditions and a lot of uncertainty in the market – it’s a risk,” said Mullooly.

Deploying supply chain finance

There was broad agreement on the main working capital tools deployed – open account trade finance instruments and receivables finance or invoice discounting, which even one very large company uses to some extent. Supplier finance such as reverse factoring and dynamic discounting were the most widely discussed tools, however. One participant noted that his company had recently launched a successful supply chain finance programme even though his experience of these had not been positive at his previous company. “We did come up with a solution but it was only after doing so much other work to get people on board. Just bring people along slowly,” he said.

Another said that her company was looking at bank-supplied SCF as well as fintech-supplied options, “as long as it is the most efficient and practical solution for us.”

One participant commented that fintechs seemed to hold the promise of being able to address some of the data issues that they had encountered with their SCF programme. Integration with the ERP and particular problems with credit notes were bugbears that the company was having to deal with. “Technology will perhaps enable integration in a way that will be more seamless and hopefully minimise some of the challenges that we’re experiencing at the moment,” he said.

One business that has recently launched an SCF programme across 85% of its global spend did so not as a cash-enhancement initiative but to support the supply chain. “By giving supplier finance, we start to desensitise payment terms from the discussion with suppliers,” he said. “And it’s a supplier finance programme that has the ability to be a dynamic discounting model if our cash situation changes. So far it’s working really well, with great feedback from suppliers.”

UK Duty to Report rules

The UK’s new ‘Duty to Report’ regulations require businesses to submit data and narrative information about their payments practices to a new government website. The aim is to drive better payments behaviour, especially by large companies towards smaller suppliers. But awareness levels about the new requirements remains at a low level, says Martin Flint, also a director of working capital at Lloyds Bank: “Not many businesses are ready for it,” he said.

One corporate participant was of the opinion that the government was not, in fact, quite clear about exactly what data they wanted. “The requirements are there but at a very superficial level. The challenge for us is that to some extent we have to interpret what it is that they want us to show. So are we close enough that that’s not going to get us a review by the government?”

One of the many steps taken to prepare for the legislation has been to ensure that what’s in the master data actually matches what is in the contracts with suppliers, “so it feels as though we’re in good shape,” this participant said. “But then I keep hearing these noises that maybe we’ve missed a trick somewhere.”

There is even a discrepancy between the government’s estimates that 8,000 companies will need to comply with the Duty to Report regulations and some independent estimates suggesting that the actual figure could be twice as many.

One of the most vital bits of information is proving to be difficult for many companies to pin down: the invoice receipt date.

“People are struggling to capture that within their systems, particularly if they’ve got multiple sites and don’t have a central place where you receive invoices. They could in fact just sit in a drawer,” said one participant, who added that the problem could be exacerbated by suppliers batch-sending invoices days after the invoice date. “If you look at paper invoices it takes an average of between 11 and 13 days from invoice date for a paper invoice to land on your desk.”

At the other end of the process, some participants drew attention to the problem of payment dates, especially when a payment run is conducted once a week, for example. “If you’re payment run isn’t aligned to your payment terms, you’ll pay people late,” one treasury expert commented. “Unless your payment terms say, ‘We will pay an approved invoice on the next available payment run after the due date,’ you might have to report paying suppliers two or three days late.”

One participant thought that his organisation was probably well prepared with regard to payments data and that suppliers were in fact being paid on time. But he wondered if in fact his perception of the message from the data actually matched the suppliers’ own experience.

Another seemed to summarise the feelings of many others when he said, “I’ve had some brief conversations about Duty to Report. I don’t worry about it enough, I suspect. I keep hearing lots of fear stories.”​

Data and benchmarking

The discussion about the data issues relating to Duty to Report opened up a wider conversation about data issues more generally, and the subject of sharing of data and benchmarking. One participant noted that her company has periodic bouts of cleaning up its data, but then letting things slide again. The root problem was “ownership” of data, and as a consequence data quality was not consistently at the level that it should be.

“If companies had the right data in their hands they would make the right decisions,” said one expert in the field. “It sounds simple, given they may have spent millions on ERP systems – but it’s actually immensely complex. It still remains a challenge and every time you learn something that is quite counter-intuitive compared to what you expected.”

A diversity of financial reporting systems across a large multinational group is also a cause of data problems. One participant, who had been of the view that his own company’s data quality wasn’t good enough, heard of an organisation that has 300,000 employees, massive turnover, eight different business units and 139 instances of SAP. “We started talking about the challenge of getting data and I thought, ‘Phew! Somebody has got a bigger problem than I do!’ We’re all challenged with the same sorts of things – it’s an evolving story as we go along.”

Belt and braces seemed to be the lesson from one participant who said that they keep a number of systems offline “to check on the data we’re getting from our ERP system”. He also uses slightly different working capital measurements than those found in the balance sheet, valuing inventory at cost rather than current market value, for example.

​“If you’re really focused on data then you’re quite far along the curve,” noted Lloyds Bank’s Mullooly. “A lot of companies we talk to are not. But it’s a massive opportunity to do all that analysis and look at ways you can improve your processes and become more efficient.”

​But while efforts are being made by many companies to improve their data quality, one participant insisted that it was important to set realistic goals. “Never wait until your data quality is perfect because you’ll never get there,” he said. “We draw out some insights and KPIs from data but we shouldn’t kid ourselves that our data is perfect and that therefore everything is great. There is always a lot more work we can do. But if we wait till it’s perfect we’ll never see those indicators.”

He added: “I came from another company that had a good reputation in this area but whose data was actually significantly worse than ours. And yet they just cut through the noise, finding the insights and driving business behaviour.”

Driving behaviour is the real goal, of course. As one participant said, “It’s one thing to know what’s going on but the next question is what can we do about it? What can we do to improve it? Is it a quick win? A long-term thing? Do we need to invest to get this improvement? We have plenty of data – so it’s a matter of understanding and then trying to see if this data is actually giving us a clear message or not.”

Some business are prepared to share data for benchmarking purposes and that has proven to be a real benefit from doing so. But for others, the culture of data confidentiality is so ingrained that they won’t even share anonymised data. “We have got partners that we work with but giving them access to data always causes a real problem. We know we could do so much more – but I understand that it’s an asset that we have and we want to protect it,” said one.

​Mullooly commented that benchmarking has real value – but that no company should automatically regard a benchmark as any kind of target. “Rather, it’s the beginning of a discussion about why there are differences and why other companies are experiencing or managing things differently and how that plays into your own strategy,” he said.

See also: Working Capital Forum report on extending payment terms in the US