For organisations of all sizes, working capital is necessary for growth and essential for the day-to-day running of the business. It is the money you have to play with, so increasing liquidity is a major priority.
Traditionally, this has been achieved in a couple of different ways, either by trying to grow profits through additional sales revenue or through external financing. But, in volatile or challenging market conditions – like those we’ve experienced since 2020 – those options haven’t been viable.
Increasingly, companies are turning to their supply chain for ways to unlock working capital and drive growth. Such measures rely on a combination of collaboration, tech and strategic thinking. They are of course not without their challenges…
Getting a handle on inventory
Your working capital is your assets minus your liabilities. Broadly speaking, if your assets are high and your liabilities are high, then you’ll have a lower working capital. If your assets are low and your liabilities are low, then you’ll have a higher working capital.
For a lot of organisations, their asset value is tied up in their inventory – if this inventory is slow moving then there is a high chance that you will have a smaller working capital (and may actually be in need of a larger one).
Having more inventory than is essential costs your business because it ties up money that could be used elsewhere. You also risk the value of your assets decreasing if the market drops. Optimising your inventory is therefore a sound means of optimising your working capital.
Of course, it is a fine balancing act. How you optimise your inventory depends on the market you are in, the relationship with your suppliers and the lead times associated with your product or service. Constant refinement at all stages of the supply chain is necessary to achieve an optimal balance between necessary working inventory and the amount of working capital you need.
Problems with supply chain financing
An growing number of organisations are relying on their supply chains to fund operations through supply chain finance projects. Through these initiatives companies aim to lower financing costs and improve business efficiency for buyers and sellers via sales transactions. In this scenario, the buyer will give the suppler a short-term credit – through a third party such as a bank – meaning the seller is paid on time while the buyer can delay payment.
In theory it is a sound means of increasing working capital, though it’s not without its problems. Supply chains are increasingly complex, spanning multiple continents and industries. That can make it difficult for lenders to asses the overall risk in the chain and therefore reluctant to release capital. By the same token, complexity can mean that visibility into the supply chain is poor; if a business has little or no transparency in its supply chain operations, lenders may be reluctant to provide finance.
Convincing suppliers and/or financial to take part in financing programs can also be problematic; supply chain finance is heavily reliant on collaboration between buyers, suppliers, and financial institutions. If there is a lack of cooperation or reluctance from suppliers to participate in supply chain finance programs, it can hinder access to finance for the buyer.
Freeing cash trapped in unpaid invoices
Cashflow is the lifeblood of your business, but all too often it can become tied up in unpaid invoices, leaving you at risk of cashflow problems. In the past, Accounts Receivable Financing (ARF) or Invoice Financing (IF) mechanisms have offered companies a way to secure early payment on outstanding invoices. This is where a third-party provider buys a company’s receivable assets in return for capital. Your debtor then settles the invoice with the third party.
This mechanism works well for short-term cashflow problems, but if managed poorly it can create problems in the long-term. For one, it can be quite expensive – most third-parties providing ARF services charge a fee or interest for the amount advanced, which eats into your revenues. Used long-term, ARF can also disguise issues with profitability. There are also concerns that if used too frequently ARF could be a sign of financial instability, which in turn may affect your relationship with your suppliers.
Working with a provider that can help you use ARF selectively, align with your inventory and financing tools, and provide real-time visibility over your cashflow position is therefore essential if you plan to use ARF.
Having access to working capital is a major challenge for organisations. Taking steps to increase it by optimising inventory, collaborating with partners on finance initiatives, and releasing cash from unpaid invoices can enhance the company’s financial position and ensure it has the necessary cash for growth. Working with providers who can facilitate that can help to improve the company’s positions and optimise its long-term financial strategy.
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