Lesson #4 – Project Participants Must Understand Improvement Objectives and How to Handle Trade-offs
So let’s assume you’ve seized a nice prize, and per the WSJ article, let’s say the prize for P&G is $2B in cash. The prize could be taken as freed cash (or to a supplier, an increase in cash held captive!) But it could also be taken as a cost reduction in the form of an early discount. So, we have the classic cash vs. cost trade-off (we’ll ignore the service aspect of on-time payments that AP is measured on). So, which is more important? In this case, it’s cash. As Rick says in the letter (to suppliers):
“We are investing in a new program to help us win by creating new tools and capabilities that reduce transaction intensity and improve working capital and cash flow. The working capital program will focus on moving to longer payables with our external business partners. We completed months of external benchmarking in 2012, and realized that we were out of line compared to our competitive peer companies on payables. Our objective is to address this in a phased approach.”
So, bottom line: the objective for P&G at the highest level is to stretch DPO in line with “benchmark.” But there is also an objective not just to stretch suppliers’ DSO to their detriment. The question is how to reconcile these mutually exclusive goals.
As you might have guessed, it’s using a supply chain finance program to have banks buy the suppliers’ receivables from P&G at a very low discount rate securitized by P&G’s solid credit score and low cost-of-capital. P&G is offering to lower the cost of the financing to suppliers (especially smaller ones), and then it will likely divvy up the cost-of-capital arbitrage with the bank. This is no different than a “buy sell” program (e.g., often used in high-tech), but it’s not lowering the cost of components. It’s lowering the cost of money.
This post is based on content contained within the following Spend Matters paper: P&G: A Case Study of Supply Management’s “Non-Invisible Hand” in 10 Easy Lessons. The paper is free to download in the Spend Matters Research Library.