Protecting your working capital

COVID-19 has made it crucial for companies to protect liquidity. Across all sectors, we’ve seen a rapid shift in working capital requirements, driven by huge disruption of supply and demand.  In this episode, host Rowena Morris is joined by two experts from PwC's operational restructuring business, Daniel Windaus and Ian Morgan, to discuss the working capital challenges that businesses are facing as a result of COVID-19. Our panel explores the actions organisations can take to rapidly change operational ways of working and protect their working capital, ensuring a more accurate cash flow forecast during these uncertain times.

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Rowena Morris (RM): Welcome to the latest episode in COVID-19 Business in Focus podcast, where we explore the business impacts of coronavirus. I’m Rowena Morris, a director at PwC, and I’m your host for this series.

COVID-19 has made it crucial for companies to protect liquidity. Across all sectors, we’ve seen a rapid shift in working capital requirements, driven by a huge disruption of supply and demand. In this episode, we’ll discuss the working capital challenges that businesses are facing as a result of COVID-19. We will explore the actions they can take to rapidly change operational ways of working. We’ll also look at some practical ways to protect working capital and ensure a more accurate cashflow forecast in these uncertain times.

I’m delighted to be joined by my colleagues today from our operational restructuring business: Daniel Windaus and Ian Morgan. Hi Daniel and Ian.

Daniel Windaus (DW): Hi Rowena.

Ian Morgan (IM): Hi Rowena.

RM: Thanks for joining our virtual studio both. So to kick things off, Daniel, what working capital challenges are our clients facing at the moment?

DW: Thanks Rowena. So one thing that a crisis like this really brings into sharp focus is the importance of cash and working capital, and we saw something very similar to the financial crisis, and while the nature of this crisis is quite different, the importance of liquidity is now, again, really quite important. We see this particularly in a few sectors including manufacturing and automotive, as well as retail and consumer – they have probably been harder hit than some others, and particularly from a demand profile perspective.

So one of the biggest challenges is around the fast nature of the changing working capital profile, and it’s continuing to change. So that really is a massive challenge, and to give you a few examples, for example on the inventory side, when we started going into the COVID-19 crisis, there was a general concern about the ability to supply and source materials to produce, and then that quite quickly flipped into do we have excess inventory, because the demand profile’s coming off, and so for example in fashion and retail, you have a lot of slow-moving items now because people are not buying clothes.

And similarly, on the receivables side, you see real change in payment behaviours and the timeliness of customers to deal without signing off receivables, so a lot of overdues are increasing both in size and in length. And probably finally in terms of the accounts payable situation, that’s very similar, where people are looking to effect some payment holidays, but also the ability to trade under terms is a concern, seeing that not all suppliers have the right level of liquidity in place.

So across all of the areas of working capital, we see that the normal business-as-usual processes that companies use to manage working capital are really struggling and are not set up to deal with this level of fluctuation and change, and that’s also coming through very strongly in terms of the challenge of managing liquidity and capital costing.

RM: Thanks Daniel, and really useful to have those examples too to bring it to life. So a takeaway there for me I suppose is specifically in some of those harder-hit sectors, a key challenge is working capital profile and demands will continue to change – so continue to be a massive challenge. So Ian, moving on to you and building on this, what practical advice do you have for businesses who are struggling to protect their working capital?

IM: So, I think the first thing is to get a really good view of your short-term cash forecast. This is something we saw quite a lot of companies doing quite early on in the pandemic, particularly as lockdown started to spread in different countries around the world. It typically needs the corporate to move from an indirect style of forecasting into a more direct, receipts and payments-style forecast. The reason for doing that is it gives you a much clearer view of the underlying drivers of the cashflow and the working capital, and allows you to take much more directive actions far quicker.

The second point I think is to have very clear ownership of cash in the organisation, and make sure you have a central point of control. To do this, it helps to have nominated senior leaders who own the driver of cash, be it sales, inventory or supplier relationships. Having that nominated owner gives you a direct line of communication to that driver of cash and a level of accountability for delivery of the action. And typically when you have a central point of control, that would have the cash forecast at its very heart, and is typically led by a CFO, a CEO or maybe a dedicated turnaround or transformation director. And we’ve seen businesses set those up in different ways – some build that into a business-as-usual process. Others set up a dedicated cash management office and really, both can work.

And finally, I think the third point is once you have these things in place, you can then start to drive those cash preservation actions through your organisation more effectively. Of course, the things you can do straight away: freezing unnecessary spend and things, but for the big decisions you really need to have the clarity on the main drivers and have that ownership structure in place.

I think to give some examples of some of the important actions to be taking now: to really understand weaknesses in the supply chain, to think about who are the suppliers who, as we move into restarting the economy, who are the suppliers who can stand back up, and who are likely to fall over and need support. Likewise on the customer side, who are the customers who are still holding on to overdue payments, and how likely are they still to be able to pay.

And finally, what are the likely demand scenarios that you need to be planning for, and how are you going to set up your operations to service those. That can be either by introducing new safe working protocols for people coming back to work, as we’ve seen the automotive manufacturers start to put in place, or by standing up backup capacity to mitigate timings differences across the world, and that’s something we’re seeing more in the shared service centre environment.

RM: OK thanks Ian, so to recap: number one, get a really good view of your short-term cash forecast. Get that clear ownership of cash and that central point of control, and only then drive the cash preservation actions. So Daniel, picking up on that point from Ian around supply chain, how can businesses boost the visibility and resilience of their supply chain?

DW: So I think Rowena that the key thing here is in the words visibility and transparency, and in the more complex, global supply chains that many companies have now, that actually is a lot more difficult than it sounds. So we’ve been actually working with quite a few companies around putting some analytical tools into place to really get under the skin of what inventories do they have, where are they, what are the demand profiles, how long does it take to flow through, to really understand where the blockages are along the global supply chain.

So that’s one of the key points about understanding and establishing that visibility, and also companies are taking a number of other steps, and maybe just calling out a couple of those: the obvious one is to recalibrate their short-term replenishment controls to reflect what lead times are doing at the moment and the top-line demand volatility, as well as also looking at a more consensus-based demand forecasting, so working closer with suppliers and closer with customers to really understand what is required so there isn’t an inflation effect on the different assumptions that are being made in each demand forecast. I think also probably worth calling out the supplier resilience and stability, and Ian, maybe you want to expand on this.

IM: Yes, sure, that’s right. So the resilience of suppliers in the supply chain generally is an area that’s been overlooked by large corporates for a long time, and that’s because we’ve grown quite accustomed to very stable, very predictable production and transport routes around the world. So we do regularly see individual disruptions to supply chains, but the global nature of this pandemic has really shifted the calculus on risk and managers going forward will need to consider some different strategies. So I think things such as the geographic sourcing decisions that have been made over time to favour cost savings in particular, will need to be reassessed against potential future outbreaks.

It’s also highlighted the need to more closely monitor the concentration of supply and your exposure to a single point of failure in the supply chain. And the financial flexibility of suppliers has largely been exposed by this crisis, so those with a high financial or operational leverage, which actually seems to have become something of the norm, those suppliers have been less able to respond to the sudden drop in demand, and has left them needing external support.

RM: So a key takeaway there: visibility and transparency is really key. So linked to that, in previous episodes, we’ve talked a lot about how scenario planning can help businesses weather the storm of the pandemic. Ian, how can scenario planning play a part in helping businesses protect their working capital?

IM: So at the moment, there’s so much uncertainty out there that it’s really extremely difficult to plan and know what the right course of action is. We know a number of businesses are now being asked to restart their operations by their major customers, but in some cases, that contradicts government guidelines and guidelines vary across the world, country by country, so it’s a challenging thing to get right when you have globally connected supply chains.

And then on top of that, there’s little confidence that even if they can restart, that demand is actually going to be there once the lockdown is lifted, and we can look to what’s happening in China as a precursor to what we can expect to see in Europe and the US. So I think demand planning is extremely important, and having views on all the variables that will determine when and where sales will return, and that will help inform your understanding of your inventory requirements for manufacturers, or for the service industries, how and when to bring people back into work. I think starting too early or over-producing is definitely a significant risk to cash at this stage.

From there, I think you can build out your purchasing scenarios and plan out your likely requirements for working capital, and once you have these different views of different scenarios, you’ll be better informed on the impacts on cash and gives you extra time to think about what you can do if you find yourself in a scenario that you didn’t really want to be in.

RM: Of course, this is very much an evolving situation and it’s difficult to know what lies ahead, but what’s your view, Daniel, on how this crisis will change and how businesses will deal with working capital in the future?

DW: It’s a good question Rowena, and clearly none of us have a crystal ball, so agility is a good thing for all companies in this, but my prediction for the near to medium term and what companies will take away from this would be three key things. The first would be around, I think companies will be much more focused and aware of the need for cash and working capital will remain on the corporate agenda going forwards. We saw a similar trend after the financial crisis in 2009 and as I said earlier, while this is quite a different crisis, I think the need for liquidity is clear, and I think a lot of management are also finding that simply low interest rates and funding availability isn’t the substitute for disciplined operational management. So, I think the first thing is it’s going to stay on the agenda.

My second prediction would probably be around the fact that a lot of supply chains that are long, extended, global, people will look at the sustainability of that going forward and probably consider more local, onshore, nearshore options for sourcing and build out different alternatives. It’s quite likely that going forward, the world will become and stay a less global place than before. So I think from the sustainability and global spread of supply chains, I think there will be a change going forwards – not a whole change but I think it will be somewhat redirected.

I think the third takeaway for me would be that, similar to what Ian said earlier, the visibility into supply networks and understanding financial health, understanding supply chain resilience, will continue to be a key theme, and as a result, working much more collaboratively and consensually with the key business partners.

RM: OK. And Ian, do you have any examples of businesses who are doing this?

IM: Yeah, so we’ve seen a lot of activity in this space recently. We’ve been advising the government for several weeks now of the impact on particular sectors in the supply chain, and more recently we’ve seen more activity with corporates and in particular we’ve been working with a large utility provider to assess the resilience of their suppliers. I think just to reiterate, I think visibility really is the cornerstone of this, and with the levels of data and analytics tools that we now have available to us, you’re able to now get a level of insight that previously you just didn’t have. So we’re helping a number of clients at the moment to put this into place and put it into place quite quickly. And from there, we’re supporting them to assess their options and where appropriate make interventions to shore up their suppliers in the supply chain.

I think on top of that, we’re also talking to suppliers at the same time about what opportunities this might present. There could be opportunities now to restructure the supply chain, to rethink how your sourcing strategies are deployed, and you may be able to either renegotiate or resource contracts. You may be able to reduce ancillary or backup capacity for service providers, or in the case of an insurer we’re talking to at the moment, there may be some opportunistic M&A activity.

RM: That’s interesting, and really good to hear about some of the opportunities that it presents too. So to sum up, what are your top tips for businesses looking to protect their working capital?

IM: So if I take that one first – I think first of all, aside from the things we’ve talked about already, I’d say engage with your customers and your suppliers. No one really knows what the world’s going to look like in six weeks, never mind six months, so no one really knows what the right course of action is, and I think working collaboratively with customers and suppliers is going to be really vital in the restart of the economy following the lockdown, and to prevent significant drains on cash from getting it wrong.

Secondly, take the opportunity to negotiate. Certainty is really a premium right now, so if you’re in a position to provide that to customers or suppliers, it really presents an opportunity to negotiate better terms for your cash and working capital going forwards, and ideally you’d look to do that on a win-win basis.

DW: And maybe, Ian, if I just build on that. I think when we look at the economies coming back out of lockdown and starting to flow again, I think a top tip for me is that there’s going to be a significant drain on working capital going into this, so if we look at producing industries, there’ll be a lag between cash that needs to be invested to start up production, buy materials, be able to service demand, versus the cash collected from new sales coming in. And companies do need to absolutely prepare for that now.

The other point I’d make in terms of things to take away is I think the visibility point is key and I’ve made it a number of times during this discussion, but I think the words consensual planning and collaboration with customers and suppliers will be terms we’ll be hearing a lot more of, and will impact the way people think about and act on their supply chain going forward.

RM: Brilliant, some great top tips there to wrap up – thanks both.

DW: No problem Rowena, thanks very much.

IM: Thanks Rowena – it was a pleasure.

RM: And thanks everyone for listening too. So if you’d like to know more about the themes we explored in this episode, visit our website at pwc.co.uk/covid19. Here you can read our blog post, ‘Protecting working capital is a lifeline for business’, which contains more practical advice. Please subscribe to stay up-to-date with all of our latest episodes, and until next time, please do stay safe.

Participants

  • Rowena Morris, director, PwC
  • Daniel Windaus, PwC
  • Ian Morgan, PwC
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