Cash prise – releasing cash could be the difference between life and death for weaker companies

Cash is the one thing most needful these days, but is hard to come by. Bank funding has dried up and capital markets don’t want to know. But cash makes the difference between life and death for weaker companies, or surviving and thriving for stronger ones. And yet, astonishingly, the biggest companies in the UK could be sitting on a potential cash resource up to £127bn ­ an average of almost £500m each.

The cash in question is, according to a recent survey, tied up in working capital ­ receivables, inventory and sub-optimal practices with regard to payables. According to REL, this extraordinary amount of cash could be released if businesses adopted the sort of systems and processes used by the companies in the top quartile in their industry.

The table on the right is an extract from the data produced by REL after it analysed the most recent accounts for 259 companies (we only have room to list 110). It shows, for example, that support service company VT Group is, on these measures, the best-managed business in the UK aerospace and defence sector: with 86 days’ sales outstanding (DSO) on its receivables, just four days’ inventory (DIO) and a fairly long 99 days’ purchases (DPO), the group has negative working capital (DWC) equal to nine days’ sales (86+4-99= -9). But with a little extra work on its DSO, REL thinks it would squeeze an extra £32m cash out of its working capital.

Top to bottom
At the bottom of the sector, Rolls Royce is much slower on collections, a more prompt payer and has 104 days’ inventory, giving it 196 days’ working capital ­ more than six months’ worth, more than twice the sector median and more than £4bn in unrealised cash. Taking the aerospace and defence sector as a whole, there is excess working capital worth some £7.6bn.

REL director Brian Shanahan admits that you have to take some of these numbers “with a small pinch of salt”. Many aerospace companies are, he says, “ quite liberal on the receivables side with airlines in order to help them through a bad time, so we’re not surprised at those numbers.” Other sectors and companies will have their own particular reasons why they may not be able to take full advantage of the opportunities notionally available.

Overall, the analysis “might feel theoretical”, but when the starting point is a potential £127bn in cash, vast amounts of liquid resources would be freed up if even half this figure could be squeezed out. Shanahan points out that the pharmaceutical sector never showed much interest in good working capital management, “because they were making so much money”. Now that their margins are under pressure and they want cash to make acquisitions in biotech , “almost all the pharma companies have some kind of working capital programme” ­ and his figures suggest there’s an £8bn opportunity to be had.

Going back to the aerospace sector, it’s worth noting that VT Group’s working capital position worsened by 70% compared with 2007 when it was equal to minus 32 days. Defence business QinetiQ, on the other hand, improved by 71%, taking its days’ working capital down from 118 in 2007 to 35 in 2008.

The figures for the UK as a whole are interesting: DSO stands at 41.1 with DIO at 30.8.

With DPO at 38.1, that leaves DWC at 33.8. This figure is a significant improvement on the 40.5 scored in 2007, though the oil and gas industry accounts for much of that improvement, thanks to the impact of volatile oil prices on their balance sheets. Even stripping that out, though, the UK still showed an overall improvement. In fact, 150 companies managed to improve their working capital position in 2008, compared with 109 that saw a deterioration.

Shanahan says there’s even more to these figures than that. “The real story is that the people who were better to start off with got much better and the people who were bad got worse.”

While companies are getting to grips with stock levels and chasing customers for cash, one element of working capital management is becoming increasingly sensitive: payment times. “You’ll hear in the press that all these big companies are paying late ­ which isn’t true,” Shanahan says. “What is true is that many bigger companies have extended their terms again. Some people have done that fairly brutally ­ for example, a lot of the retail guys ­ but there have been a lot of companies who have done it far more quietly and far more sensitively.”

Ethics and sensitivity
There is a business ethics issue here, but he adds that this is overlaid with common sense. “This is one of the things that we keep on harping on about,” he says. “Is it right or wrong to extend your terms? I think in commercial terms it is absolutely right.

However, it’s not right to be brutal about it. The people who are getting really badly hit by this are the small guys with the shed round the corner. But they are the building blocks for the entire supply chain for everybody. So there is a case for sensitivity.”

Shanahan believes that while companies are working hard to get more cash from their businesses, many of them are having to relearn some basic skills: they have forgotten how to evaluate risk because they’ve outsourced so much of the analysis by effectively relying on trade credit insurance. Now that cover is either not available or more expensive, these risk management skills are having to come back in-house. “The best information you’re ever going to have is from a decent credit controller,” he says, “because they’re talking to the customers every day.”