Mastering the Flow

CFO's new Cash Masters Scorecard shows which companies are best at turning sales dollars into cash flow.

Read the complete results of the 2007 Cash Masters Scorecard, or review just those results that appeared in print.

In these market-rattling, credit-crunching, confidence-sapping times, cash can be a very good thing for a company to have (although return-hungry shareholders might argue over how much). And indeed, Corporate America has amassed an impressive hoard over the past few years, as profits have soared. Yet, according to a new study done for CFO magazine, companies could be generating billions of dollars more in free cash flow. How many more billions? In theory, as much as $508 billion.

That eyebrow-raising figure comes from REL, an Atlanta-based global research and consulting firm. Seeking to find out how efficiently companies generate cash from sales, REL analyzed the 2006 financials of the largest 1,000 U.S.-headquartered public companies (excluding the financial sector). The results form the inaugural CFO/REL Cash Masters Scorecard.

Gauged by standard metrics, 2006 was a good year for the top 1,000 companies. Sales increased 10.2 percent, to $8.9 trillion; operating cash flow rose 9.4 percent, to just over $1 trillion; and cash on hand grew by 1.2 percent, to $574 billion (the latter is admittedly a comedown from 2005′s spectacular 11 percent growth). By year-end 2006, according to REL, the top companies had accumulated some $351 billion in “excess” cash (more on this below).

But good as this glass-is-overflowing news is, it could have been better. Cash conversion efficiency (CCE), a measure of companies’ ability to turn sales dollars into cash, declined for the top 1,000 companies between 2005 and 2006, from 11.5 percent to 11.4 percent. CCE is simply operating cash flow divided by sales; the lower it is, “the fewer dollars are making their way to the balance sheet,” says Stephen Payne, president of REL.

Meanwhile, when measured as a percentage of sales, corporate cash on hand actually fell 8.1 percent in 2006, to 6.5 percent. That development does have a positive aspect, since it indicates that companies are putting more of their fat cash cushions to work. But the decline can also be attributed in part to worsening CCE.

The Cash Masters Scorecard shows how companies stack up against their industry peers measured by CCE performance. The scorecard, says Payne, can help finance chiefs see what opportunities their companies have to generate additional cash flow from operations — whether, for example, through lowering selling, general, and administrative (SG&A) costs, redesigning working-capital processes, deploying new technology, or using low-cost sourcing.

Leaders of the Pack

There is considerable CCE variability among industries. High-margin sectors, such as biotechnology and pharmaceuticals, will have high cash conversion efficiency, while low-margin industries, such as food and staples retailing, will have low CCE. In terms of CCE improvement, gas utilities, independent power producers and energy traders, and multi-utilities led the pack in 2006. Gas utilities achieved their 69 percent improvement over 2005 by reducing SG&A costs and net working capital, says Karlo Bustos, financial analyst at REL. Independent power producers and energy traders reduced SG&A and working capital as well, but also enjoyed an increase in gross margins of 84 percent.

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