People. Process. Systems.

Andrew Stark
3rd October 2017

Working Capital

Lloyds Bank released their latest Working Capital Index in September claiming that there is £535bn in cash that could be released in Britain (7% higher than the previous report in May).

Non-cash working capital is made up of inventories and trade receivables less trade payables. One of the key metrics that you should be monitoring, and benchmarking, is the cash conversion cycle which brings the three elements of working capital together through Days Inventories Outstanding (DIO), Days Sales Outstanding (DSO) and Days Payables Outstanding (DPO).

1. Inventories

Measured as Days Inventory Outstanding (average inventory  / purchases * 365), the Lloyds report shows an increase in the inventories, driven by advanced purchases due to expected inflation and increased stock to cover uncertain demand.

Key to bringing DIO back to benchmark levels is a robust Sales & Operations Planning process and the toolsets to support it. It’s not uncommon to see companies operating in silos with the sales, purchasing  and operations functions in conflict over the volume of inventory.

A good S&OP process will bring each of these functions into a cohesive and actionable plan. This starts with a demand forecast which can be as simple as estimated sales volumes from the sales team through to complex machine learning algorithms taking into account prior actuals, seasonality, promotions etc. There will always be a variance to the forecast numbers, if there’s one guarantee in the S&OP process it’s that the forecast numbers will invariably be wrong. Forecast accuracy reporting, and then working to improve it, can only be done when the numbers are available to analysed.

An integrated S&OP toolset will generate an optimised procurement plan based on current inventory levels as well as expected price increases, contractual volumes and a multitude of other variables. Best of breed toolsets will run through optimisation algorithms to ensure that cost is minimised – optimising purchase volume against the cost of holding the inventory.

At Optimum we’ve delivered S&OP projects where upwards of 10% of inventory reduction has been possible through a combination of improved processes and the toolsets to support them.

2. Trade Receivables

The Lloyds report shows a decrease in the receivables index due to increasing revenue as well as customers taking longer to pay. The receivables element of working capital is measured through Days Sales Outstanding (average accounts receivable / sales * 365).

An increase in revenue can have a considerable impact on working capital, particularly if customers are taking longer to pay. The combined effect could take a 5% increase in revenue up to a 58% increase in working capital if the average days to pay increases by only 15 days (£80k effect on a turnover of £1m).

A proactive collections management process, without damaging customer relationships, will help bring this element of working capital under control. Combinations of CRM (Customer Relationships Management) and customer collections toolsets can help automate some of the tasks, e.g. reminder notifications to customers. A good system will also be able to identify where it could be beneficial to offer a early payment discount to certain customers to incentivise them to pay.

3. Trade Payables

The Lloyds report shows an increase in the payables index driven by increasing import costs along with a reduction in the overall levels of purchases through cost control. The payables element of working capital is measured through Days Payables Outstanding (average accounts payable / 365 * purchases).

For non-services companies this is closely linked with the inventories element of working capital as a S&OP process and toolset will allow the optimisation of purchases based on multiple variables, including the impact of a supplier price increase on margin versus the cost of holding the stock earlier and the impact on cash flow.

While payment terms are often the first thing a company will look at when trying to improve days payables there are other drivers that a good cost management toolset will enable. A key tool that can be used by the purchasing team to improve procurement is Business Intelligence and bringing together the purchasing data for all areas of the business. This will often highlight multiple suppliers providing the same good or service which can be targeted as part of a supplier rationalisation initiative.


It is quite easy to see that there is indeed a vast amount of working capital that could be released by a business. The key is in putting the processes and systems in place to enable this. A company with a turnover of £10m could release £100k to £140k of working capital by focusing on just one of these elements; money that could be re-deployed to activities that generate revenue rather than being tied up.

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