As a novel change to sharing tips on what to do, I thought I’d continue this month’s focus on working capital reduction with a post on things you might consider doing less of or even not doing at all.
More specifically, this post delves a little into three things companies do, which may seem not to do any obvious harm, but which actually increase the amount of working capital required to operate a supply chain.
Is Your Company Doing the Following?
If you’re aware of any of the following activities taking place in your supply chain operation, you might want to assess the value they add versus their impact on working capital. If the benefits of the activity are too great to lose, then by all means keep doing them. However, oftentimes, these “habits” offer little in the way of value and present but a small trade-off against the working capital gains that can be achieved.
1. Paying Large Suppliers On Receipt of the Invoice
Does your company keep itself in suppliers’ good books by paying for goods upon receipt of the invoice? If so, you’re losing out unless you know you’re getting a discounted price for early payment. It’s actually more likely that you are paying a premium built into the purchase price, designed to cover the cost of credit.
When your supplier offers payment terms of 30-days for example, it’s expecting you to delay payment for the full term and therefore, prices its products accordingly. By paying early you’re not only increasing working capital needs—you’re also paying over the odds for your inbound materials.
If you want to continue paying invoices on receipt, at least talk to the supplier and obtain a discount for doing so. That creates a win-win situation, since you get your materials for less and your supplier gets to reduce working capital by way of your early payment.
Please note though, that I’ve made deliberate reference to large suppliers. You might want to refrain from pressuring the cash flow of small suppliers, since it’s in your company’s interests to ensure they stay in business and can continue to fulfill your material or service requirements.
2. Giving Customers A Reason to Stretch Payment Terms
Whether it’s through wanting to be seen as a benevolent supplier or just through a lack of visibility or attention, companies often allow customers to ignore payment terms and expectations. These customers stretch their periods of credit to the max and as far beyond that as they can get away with.
You may need to improve visibility of the invoicing cycle with the help of better information systems, but if you hope to reduce working capital, gaining the necessary intelligence to do so is essential. Tackle customers who are persistently late with payments and bring them into line, even if you have to offer invoice discounting as an incentive.
Furthermore, you should do all you can to avoid situations where customers dispute their invoices and delay payment. This is more likely to happen when order or invoice inaccuracies are present. Focus hard on improving perfect order metrics to minimise errors.
3. Under-Utilising Your Warehouses
It’s generally recognised that inventory is the first thing to optimise in order to reduce working capital. However, the storage facilities which house that inventory are often overlooked as potential sources of improvement.
For example, the more warehouses you have in your network, the more buffer stock you will hold. Similarly, under-utilised or poorly configured warehouses are notorious sources of waste.
Evaluate if you have the right number of warehouses and reduce if possible. It’s becoming easier to find short-term warehouse space today, if and when you need it. Also investigate if you can centralise buffer inventory in a single location, instead of holding some in each of your facilities.
Sometimes Less is More
In most companies, the supply chain hides plentiful opportunities to reduce working capital. However sometimes, grasping those opportunities requires a focus on what to stop doing or what to do less of, as opposed to generating new activities.
Before you embark on a venture to reduce working capital, it’s essential to do a full analysis of your supply chain “as is”. Look for any processes, practices, policies, and activities which might be bloating working capital unnecessarily, then put plans in place to stop doing them. In some cases you might need to do something else instead, but in other areas it may just be a matter of saying no.