6 ways to improve your cash flow and working capital management

Jun 15. 20205 min read
Jon Lee

Taken with permission from January 30th’s 2020 Apliqo blog post

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Tips for boosting cash flow

1 – Understand that cash is king

“Cash flow is the ultimate value driver,” says Jack. Any business, regardless of its niche, needs sufficient cash at all times in order to run effectively. That’s why your cash flow statement is at the heart of your company’s financial reporting.

Recognizing the importance of cash flow is imperative to improving your finance team’s reporting processes. Remember, preparing your cash flow statement isn’t just another finance drill; it’s a key insight into your company’s performance and where it stands financially.

2 – Improve your indirect cash flow reporting

The indirect method of cash flow reporting starts by presenting cash flow with net income or loss before adding or subtracting non-cash revenue and other expenses.

“It’s a rather ugly yet necessary form of presenting cash flow,” says Jack. “It’s actually what’s required by the public reporting entities in the US.”

The indirect method is often used in external communications to report a company’s cash flow to banks and investors. It’s also commonly used in financial models like annual plans, long-term projections, and company valuations.

Unfortunately, the indirect method has some drawbacks.

“It doesn’t provide a lot of value in understanding a company’s cash flow or how to improve it, and that’s mainly attributable to the fact that it offers no insight into any major drivers,” says Jack. “It’s also almost incomprehensible for non-finance people, and many finance folks as well.”

In his webinar, Jack shared some tips for improving your indirect cash flow statements by tracking key metrics like DSO, DSI, accounts payable, capital expenditures, depreciation estimates, and more.

3 – Create a cash budget (aka direct cash flow statement)

The direct method of cash flow reporting offers much more intuitive insight into a company’s cash flow.

It works by looking directly at the in and outflow of a company’s cash and provides insight into its major cash drivers, including customer receipts, payroll, and payments to suppliers.

“The direct method also allows us to focus on the specific timing of inflows and outflows of cash over the next couple of months and summarizes everything in an ending cash balance,” says Jack.

This method is generally used by cash managers, but companies can and should also use it for a more intuitive look at their flow of cash.

Tips for better working capital management

Working capital is another key metric tracking a company’s financial standing.

“I have found that almost every enterprise can evoke substantial reductions in working capital management by going through a progressive review of its processes,” says Jack. Below are some of his top tips your company can use to improve its working capital management.

4 – Run a critical analysis of your accounts receivable

Accounts receivable is one of the biggest assets on any balance sheet. “It’s also a great reflection of customer satisfaction, the quality of our goods and services, and the credit status/worthiness of our customers,” says Jack.

To review your accounts receivable, you’ll want to start by working out your best possible DSO and comparing that to your current average. Then, you’ll want to identify the key reasons why your DSOs aren’t where they could be.

To identify what’s driving your accounts receivable, you’ll want to look at some key drivers of the revenue process, including:

  • Your credit policies.
  • The financial health of your customers.
  • The quality of your products and customer service.
  • The efficiency of your collections management and your entire revenue cycle.
  • Shipment patterns.

In his webinar, Jack outlines a detailed process for reviewing your accounts receivable by looking at key drivers starting at the sales process right down to the final day when you receive payment.

If, for example, your accounts receivable are simply driven by payment lags from your customers, you can address this by improving your customer service process.

“Rather than waiting 45 days to call a customer, call them on day 15. Then you’ve started the clock and removed any possible excuses for outstanding payments,” says Jack.

5 – Review your supply chain and inventory

Supply chain and inventory are a key asset in almost every industry except the service sector.

According to Jack, one of the keys to creating better supply chain and inventory processes is expanding the scope of inventory to include customers and returns and, prior to that, product conception/development, sales forecast, and planning.

“One of the first things I like to do when analyzing inventory is to create a value-focused report that lists inventory in descending order based on value,” says Jack. From there, you should start reviewing your inventory by focusing on the top 20%.

Remember, if you’re going to move the needle, it’s best to start with the large items. “Pareto analysis is a very effective yet often under-used tool here,” says Jack.

Another key area to look at when reviewing your company’s supply chain and inventory is excess and obsolete inventory. This typically makes up a large component of inventory and also indicates a number of process failures.

Some root causes of excess and obsolete inventory, for example, include poor product management and sales forecasting.

“Some old school tools like variance analysis, roll forward, and trend schedules can provide a lot of insight into the dynamics of your company’s inventory,” says Jack.

6 – Generate cash by monetizing non-strategic assets

Last but not least, one of Jack’s final tips for how you can improve your cash flow and working capital is simple; by monetizing non-strategic assets.

“I’ve found, for example, that a lot of organizations have an excess of unused real estate,” says Jack. Renting out or selling these spaces can help generate cash for a company, as can;

  • Licensing specific technologies to other markets.
  • Divesting non-strategic product lines.
  • Liquidating investments in partnerships and venture funds.

 

Learn more about accelerating your cashflow modelling & take advantage of a free CMR Assessment

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