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U.S. Companies Improve Working Capital Performance — But Is It at the Expense of Suppliers?

08/06/2018 By

U.S. companies’ working capital performance is at its strongest since 2008, according to The Hackett Group. However, this is in large part a result of companies shifting their working capital burden on to their suppliers by extending payment terms. The average days payable outstanding in 2017 was 56.7 days, 3.4 days more than in 2016.

This data comes from The Hackett Group’s 2018 U.S. Working Capital Survey of the 1,000 largest non-financial companies with headquarters in the U.S. The four key metrics used in gauging companies’ working capital performance were days sales outstanding (DSO); days inventory outstanding (DIO); days payables outstanding (DPO); and cash conversion cycle (CCC).

In 2017, DSO increased by 4%, marking the fourth consecutive year that this metric has done so, while DIO increased by 0.6%. Companies’ improved working capital performance can be attributed to DPO, which increased by 6% last year. For many benchmark leaders, payment terms have been stretched to 90-plus days.

“The primary strategy many companies are using to improve working capital performance is simply to hold back payments to suppliers, in some cases extending payment terms up to 120 days,” says Craig Bailey, associate principal at The Hackett Group. “Unfortunately, when companies extend payment terms it has significant impact on the DSO performance of their suppliers.”

Indeed, DPO performance has reached a decade-high, driven by industries with more bargaining power with their core suppliers, such as automotive, retail and chemicals. In contrast, the aviation, engineering and hospitality industries have been less successful in extending their payment terms.

The average cash conversion cycle (CCC), or DSO + DIO – DPO, was 33.8 days, marking an improvement of 1.5 days or 4% over 2016. Average CCC had reached a high of 37.3 days in 2015, and this latest number comes close to the 33.4-day CCC of 2008.

Top Vs. Typical Performers

There is a significant and growing gap between companies with the best working capital performance and average performers, the Hackett Group report shows. The average CCC for the top quartile of performers is only 16.7 days, in contrast to the median CCC of 47.5 days.

Similarly, the top quartile boasts significantly lower DSO and DIO and higher DPO. While the median DSO is 47.7 days, top performers collect from their customers in 29.1 days, nearly three weeks faster. In turn, they pay their own suppliers about three weeks slower than the median company (66.9 days vs. 45.4). Top performers hold less than half the inventory of the median performer, with a DIO of 23.9 versus 57.7.

Source: The Hackett Group

As the chart above shows, the gap between top and median performers is increasing, particularly when it comes to inventory. The Hackett Group estimates that inventory represents a $443 billion improvement opportunity for companies that are not top performers.

Opting for Quick Fixes?

Two other key factors behind U.S. companies’ improved working capital performance are rising interest rates and high M&A activity, according to the report.

“For the first time in years we’re finally seeing rising interest rates, and that is driving more companies to look at improvements to working capital,” Bailey says. “The record level of M&A is also starting to increase the focus on both cost and cash. So we’re seeing a significant improvement in working capital performance.”

Debt, however, is also rising, having increased by 10% last year. Bailey suggests that most companies seem to be looking for quick fixes in improving working capital.

Source: The Hackett Group

Companies are taking on debt to fund acquisitions (the number of mergers and acquisitions in the U.S. increased by 14% from 2016 to 2017). As the chart above shows, the ratio of cash flow to debt has been steadily shrinking over the course of this decade.

Moreover, companies tend not to sustain their improved working capital performance. Only a third of companies that improved their CCC for three years managed to sustain this performance for five years. Moreover, only 7% managed to do so for seven years.

Industry-Specific Working Capital Performance

Among the 14 industries analyzed by The Hackett Group, the computer hardware industry has seen the best cash conversion cycle improvement (-88%), while CCC performance declined most significantly for the airline industry (+45%). Here is how the other industries have fared in 2017.

Industries with improving CCC performance include the following:

  • Beverages (-46%)
  • Motor vehicles (-33%)
  • Food and staples retail (-26%)
  • Oil and gas (-23%)
  • Utilities (-23%)
  • Telecom (-18%)

Industries with worsening CCC performance include the following:

  • Chemicals (+19%)
  • Hotels, restaurants and recreation (+14%)
  • Automotive parts (+11%)
  • Personnel services (+11%)
  • Electrical products (+10%)
  • Medical specialities and services (+9%)

The full report can be found here.