Improving working capital is a focus for every financial executive and is crucial to business growth and profitability. Yet current strategies often fail to recognize the role accounts receivable can play in reducing the cost of working capital, while also having a positive impact on customer relationships and even the wider economy.
Sustainable working capital provides a company with the flexibility to expand and enhance its operations, improve liquidity, maintain or increase profitability, and respond to challenging economic conditions. Yet all too often money can become tied up in the accounts receivable entry on the balance sheet, something that firms looking to optimize working capital have often overlooked as part of their financial strategy.
The importance of unlocking funds in accounts receivable has been exacerbated by the economic climate and the continued reluctance of banks to lend. Indeed, innovative firms are looking internally to raise funds by taking a customer-centric approach to improve accounts receivable and therefore optimize working capital.
Historically, firms have looked to optimize on three key aspects of working capital—cost cutting, inventory management, and obtaining the best possible returns on cash reserves while prolonging the accounts payable process. These functions are already considered strategic, yet accounts receivable, often the largest entry on a balance sheet, has traditionally been more of an administrative concern. However, as the fourth key factor of working capital, accounts receivable is where an untapped opportunity for innovation in optimizing working capital lies.
A rethink is required to ensure that the credit, collections, and complaints functions unlock the true value tied up in accounts receivable and therefore become a strategic concern. If done successfully, this will not only keep cash flowing through a business, but will free up funds for investment in future growth.
Turning from Tradition
Over the last several years, cost cutting has been at the heart of most strategies, meaning the majority of firms are now as lean as they can be without affecting performance. Moreover, long-term inventory management strategies are well supported by logistics theories and systems, so the potential for further improvement is minimal.
The same can be said for cash management, with larger corporations applying sophisticated strategies to manage and utilize their daily cash reserves. However, in the short term, there is a ceiling to the potential returns realized from cash and money market instruments.
Lessons learned over the last few years have shown that relying on these liquid asset classes or stable interest rates is no longer a safe bet. Meanwhile, accounts payable is often the subject of shortsighted policies.
Granted, firms can improve liquidity by withholding payment of invoices to protect cash, but this is not a sustainable strategy since all monies owed will ultimately be collected. But such an approach can and has contributed to an uncertain business climate in which cynicism has replaced trust as companies withhold payment for their own short-term benefit.
