Capital Ideas: The 2005 Working Capital Survey

Despite cheap credit and surplus cash, companies still find plenty of reasons to improve operational efficiency.

Zebra Technologies Corp., a manufacturer of bar-code-label printers, for example, keeps a tight grip on working capital even though it holds almost a year’s worth of revenues ($663 million last year) in cash. “Working capital is important because it is the funding mechanism for future growth,” explains vice president and controller Todd Naughton. “We think of ourselves as an acquirer. Managing working capital gives us the currency to do that.” The company, which has no debt, has completed three cash acquisitions in the past three years and, with $500 million in revenues in 2000, bought back $100 million in stock.

Zebra does much of its business through resellers. That makes receivables the crucial working capital element. The company keeps resellers, often privately owned and thinly capitalized, on tight credit limits and terms. “We want top-line growth and we don’t want write-offs,” explains Naughton. “If we give a reseller a $300,000 credit limit and it pays us every 30 days, it can do $3.6 million a year [in sales]. If it pays us in 60 days, it does half that. By keeping the reseller to terms, it turns its account more frequently and we do more total business.”

Likewise, he says, “when people start missing terms, accounts go bad quickly.” By considering days sales outstanding (DSO) an early warning sign, he says, Zebra has kept its bad-debt expense at less than half a percent of revenue.

Naughton also argues that well-managed working capital can be a competitive advantage. “At 90 days of DSO, one of our competitors is probably at the limit of risk it can tolerate,” he explains, “whereas if we are at 45 days, we can take a little risk on extended terms or extra credit limits if we have a good feel for a deal. A company stretched to the limit on its working capital can’t do that.”

“Working capital is a very good barometer of operational efficiency,” says Payne. “Yes, companies are awash in cash, but most of it comes from reducing cap ex. But if working capital deteriorates, the company is probably not focusing on the core of its business.”

At Whose Cost?

Overall, companies in our survey (excluding the automotive industry) continued to reduce their DWC, but at a slower rate (2.5 percent) than in last year’s survey (4.2 percent). “It looks harder and harder to deliver on working capital performance,” notes REL’s chief financial analyst, Marc Loneux, who compiled the survey. At the same time, he says, “the decline also suggests that management focus is switching from the balance sheet back to the P&L as companies try to grow EPS and revenues.”

Of the 78 industries surveyed, 55 improved DWC — up from 45 last year. But while more showed gains in payables (51 versus 35), the number of sectors improving receivables fell from 47 to 43. Inventory results also deteriorated, from 52 industries last year to 42. That’s unfortunate; although delaying payables delivers a quick boost to cash, the resources payables represent are generally the least valuable portion of the cash tied up in working capital. Raw materials are worth less to a manufacturer than work in process or the finished product. A similar increase in value holds true for nonmanufacturers — the total value of airline tickets, for example, should be worth more than the airline pays out in fuel and other costs. “You get a bigger bang for your buck improving receivables or inventory, because they are worth more,” notes Payne.

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