After several years of consistent improvement, Europe's
largest companies have now virtually stalled in their working capital
improvement efforts, potentially leaving as much as EUR 500 billion in
excess working capital untapped, according to the 9th Annual Working
Capital Survey conducted by Hackett-REL, the Total Working Capital
practice of The Hackett Group, an Answerthink company (NASDAQ: ANSR),
in conjunction with CFO Europe Magazine.
The results, which were unveiled today in the September issue of
CFO Europe, address a missed opportunity in the form of cash that is
unnecessarily tied up in late payments by customers, excess levels of
inventory and suppliers that have been paid too early. For most
companies, this excess working capital represents lower profitability
and cash flow to fund growth and other strategic initiatives that can
improve shareholder value.
The survey highlights a disappointing trend of weakening working
capital performance improvements at Europe's 1,000 largest companies,
with a reduction of only 0.6% in 2005, compared with a 3.3% drop in
2004 and 5.1% in 2003. This was primarily driven by increasing
accounts payable (+3.0%) with a modest reduction in inventories
(-0.6%). Improvements were offset by a significant deterioration in
accounts receivables, up +2.3% versus the -1.7% drop in 2003/04.
The European results are particularly jarring when compared with
the latest results from a separate study performed by Hackett-REL,
which shows that the 1,000 largest companies in the U.S. actually
accelerated improvements in working capital management significantly,
reducing working capital by 4.0% over the same period (see separate
Research Alert).
The Scourge of Corporate Liquidity
The perception in the marketplace is that corporate liquidity is
much improved, causing management attention to shift away from working
capital towards growing the business and the bottom line, according to
Andrew Ashby, President of Hackett-REL Europe. "In reality, whilst the
absolute level of cash on balance sheets has increased by 15.3% over
the past year, the relative level of cash as a percentage of sales has
increased by only 0.4% across the top 1,000 European companies in
2005." Ashby continued: "It is premature for companies to shift their
focus from working capital management, because the cash the companies
can generate in this area is an exceptional way to fund the growth
these companies seek."
A Divergent Trend: Europe vs. U.S.
Historically, Hackett-REL research has found working capital
improvements from European and U.S. companies to run in parallel. In
fact, excluding the automotive industry -- which can skew results
because of the large financing arms operated by the major
manufacturers -- European companies improved their working capital
performance significantly more than U.S. companies in the two previous
years. But that is not the case this year. According to the
Hackett-REL research, this year shows a significant contrast in the
two regions with continued improvement in U.S. DWC performance. The
table below highlights the trend.
-0-
*T
----------------------------------------------------------------------
Region 02/03 03/04 04/05
----------------------------------------------------------------------
Europe (a) -5.1% -3.3% -0.6%
----------------------------------------------------------------------
U.S. (a) -4.2% -2.5% -4.0%
----------------------------------------------------------------------
(a) Figures exclude the Automotive Sector
*T
Andrew Ashby, President of Hackett-REL Europe explained:
"As in the U.S., European companies have a huge opportunity to
improve working capital performance. The U.S. continues to capitalise
on this low-cost source of cash despite record corporate liquidity
levels and a strong economy, which suggests no reason why the
performance of European companies is weakening." Ashby added: "This
may be due to a perception that European companies have picked the
low-hanging fruit within their businesses, like lengthening supplier
payment terms and proactively contacting customers to improve
receivables. Our view is that significant opportunity still exists to
improve the customer/supplier relationship. Creating visibility around
accurate information allows the collaboration and planning necessary
to aid suppliers in achieving tighter turnarounds, supporting quicker
responsiveness to customer demands, whilst holding less inventory and
reducing working capital across the entire value chain, enabling cost
savings and service level improvements for all."
Squeezing Suppliers? Only a Short-Term Advantage
The Hackett-REL study shows nearly 56% of the top 1,000 European
companies boosted their working capital performance through extending
supplier payment terms compared to 47% last year. The research metrics
illustrate a continuing trend of customers encouraging longer payment
terms with suppliers. With respect to this activity, Hackett-REL's
experience is that some companies are formalising a process for
payment terms whereas others are establishing contractual arrangements
with suppliers but paying as and when it suits them. This practice is
in stark contrast to the mere 4% of European companies that were able
to achieve improvement in all areas of working capital by taking a
structured company wide approach to improvement.
-0-
*T
----------------------------------------------------------------------
DSO DIO DPO DWC
----------------------------------------------------------------------
COMPANY SECTOR 05/04 05/04 05/04 05/04
----------------------------------------------------------------------
CARLSBERG Distillers & Brewers -8% -6% 5% -18%
----------------------------------------------------------------------
KESKO Food Retailers & Wholesalers -4% -5% 4% -13%
----------------------------------------------------------------------
HENKEL Household Products, -9% -9% 7% -19%
Non Durable
----------------------------------------------------------------------
ANGLO AMERICAN Mining -3% -2% 5% -7%
----------------------------------------------------------------------
BUNZL Other Industrial & -6% -6% 5% -17%
Commercial Services
----------------------------------------------------------------------
Chart Legend
DSO - Days Sales Outstanding
DIO - Days Inventory Outstanding
DPO - Days Payables Outstanding
DWC - Days Working Capital
*T
According to Ashby:
"A strategic approach to working capital improvement will yield
greater sustainable long term results, than the potential short term
impact gained from squeezing suppliers."
Hackett-REL's view is that companies should reach varying payment
terms with their suppliers in the same way they are agreed with
customers. The expectation of customers honouring their terms should
be consistent throughout the supply chain.
Ashby continued:
"Our view is that treating suppliers as you would expect to be
treated by customers will yield long-term benefits, especially in
periods of an improving economic outlook. This is certainly the case
when you need to call upon those suppliers to fulfill periods of high
demand; the success of your business then becomes reliant on their
flexibility, which is tied to your working relationship. If your
behaviour towards them has historically been adversarial then they are
unlikely to sympathise or respond to your needs."
Performance Improvements for Southern Europe
Southern Europe appears to be trying to close the DWC gap with
Northern Europe in terms of working capital reductions with Italy and
Spain (the two largest Southern European economies) registering a fall
of -15% and -11%, respectively. Conversely, Northern European
countries have reported increases: France +1%, Netherlands +4%,
Switzerland +3% and the UK +0.3%.
Hackett-REL's research into Total Working Capital over the years
has demonstrated that the perennial slow payers, from Southern Europe,
have always had higher gross working capital than in Northern or
Central Europe. However, from 2004/05, Hackett-REL's research metrics
demonstrate that Southern European companies are driving improvement
in working capital across all components. Companies showing
significant improvement include Fiat SPA (-7%), Telecom Italia SPA
(-39%), Pirelli & C SPA (-22%).
Overall findings
Of the 70 industry groups examined by Hackett-REL, 24 sectors
managed to post a double-digit decline in total working capital, with
a further 19 sectors also experiencing a decrease in total working
capital. The worst performing sectors included Medical Supplies (an
increase of +12%); Consumer and Household Services (a rise of +13%)
and Apparel Retailers (a rise of +22%). The CFO Europe article also
features profiles of two companies and their successful DWC reduction
efforts: Punch Taverns, a GBP 770 million (EUR 1.1 billion) restaurant
company and Henkel, a EUR 12 billion household product and
non-durables company.
Research Methodology
The 2006 CFO Working Capital Survey measures the working capital
performance of the largest 1,000 European companies (as measured by
sales) during the 2005 period. Year-to-year comparisons are based on
the results of previous surveys. 80 sectors are covered in the survey.
Working capital performance metrics are calculated from the latest
publicly available financial statements, focusing on sales, trade
receivables, inventories and accounts payable (excluding accruals,
deferred income and other cash and cash equivalents). Adjustments were
made to the data to reflect the impact of acquisitions/disposals
activity and off-balance sheet arrangements in order to provide true,
consistent and comparable figures. Reported total numbers are sales
weighted.
Working capital is the capital invested in operating processes to
buy, make and sell in order to generate profit. The operating working
capital comprises operating cash, trade receivables and inventories
less payables. Typically, a reduction in operating capital can be
achieved through improved collection, dispute and credit management,
inventory and supply chain optimisation, supplier consolidation and
efficient buying.
Highlights of the Hackett-REL survey are featured in the September
issue of CFO Europe, available online at www.cfoeurope.com. More
detailed information on the Hackett-REL research is available to
members of Hackett's Total Working Capital Executive Advisory Program.
More information is also available at The Hackett Group's website on
www.thehackettgroup.com/research/twc.
About Hackett-REL
Hackett-REL, the Total Working Capital practice of The Hackett
Group, is the global leader in generating cash flow improvements from
working capital and operations. For more than 30 years, Hackett-REL's
expertise has helped clients in over 60 countries free up billions of
dollars in working capital ($25 bln in the last ten years alone),
creating the financial freedom to fund their strategic objectives,
including acquisitions, new product development, debt reduction and
share buy-back programmes. The Hackett Group is an Answerthink
company, whose clients include 96% of the Dow Jones Industrials, 50%
of the FTSE 100 and 70% of the DAX 30.
About CFO Europe
Launched in 1998, CFO Europe is part of the CFO family of
magazines (CFO, CFO.COM, CFO Asia, CFO China) published by The
Economist. Every month, we provide chief financial officers with the
practical information they need to perform their jobs more
effectively. With a global monthly readership of more than one
million, the CFO magazines are among the leading business publications
for C-level executives around the world. For more information, visit
www.cfoeurope.com.
