Scrubbing the Numbers

Cleaning up the balance sheet boosts year-end cash flow, but it can leave some messy problems.

In fact, working capital is increasingly a part of compensation packages. At IBM, says treasurer Jesse Greene, business units that miss working-capital targets have their results—and, ultimately, a portion of their bonuses—docked by the cost of capital. Basing compensation in part on working capital is, in fact, a way for companies to move incentive compensation closer to such core financial measures. “Ultimately, we will be holding managers accountable for return on capital employed,” says Beebe. “Our working- capital effort is an element of that.”

Short Term, Long Term

Of course, as more incentives are based on working capital, it is important for companies to put in place permanent process improvements. At Owens-Illinois, for example, overly generous payment terms and discounts were brought under control by educating the sales force “that it all adds up,” says Channell.

Moreover, the company used the lessons it learned from its receivables department and applied them to payables, even cross-promoting a credit analyst from the AR department to an accounts-payable manager. “We took all the good things we learned in receivables and applied them to payables,” says Channell. Extending payables, says REL’s Payne, is best accomplished not by delaying payments, but by collaborating with suppliers. Vendors are usually willing to negotiate favorable payment terms if they are confident that the customer will stick to those terms. “Suppliers want consistency,” he notes.

Without such process improvements, companies are likely to continue to see wide swings in working capital, notes Payne. He also speculates that the year-end ups and downs are increasingly the result of poorly conceived incentive plans. Either way, he argues, companies that regularly do a fair amount of housecleaning at year-end are causing themselves unnecessary stress as well. “It creates a vicious cycle,” he says, since investors compare the company year-over-year. “Unless you do something substantial to permanently fix your working-capital processes, you’ll be compelled to jump through those hoops every year.”

And while avoiding year-end stress is as good a reason as any to break out of this cycle, there can be other, more-serious financial consequences of such tricks as delaying a payment until the next fiscal year. “If you consistently screw them over at year-end,” warns Payne, “vendors will build the cost of carrying that capital into their pricing models.”

Tim Reason is a senior writer at CFO.

The online tables for “Scrubbing the Numbers” feature an overview and a browsable version of all 21 industry sectors included in the magazine.
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