Altering key elements of its business model triggered dramatic improvement at Source Interlink Cos., a $2.3 billion magazine publisher and distributor of music CDs, DVDs, and magazines. The company crossed the formidable 10-day threshold for DWC by paring its number to just 9 days. By contrast, a more lumbering Source Interlink held 41 days of working capital as recently as 2005. Much of this improvement came from better receivables management; it cut DSO over the past two years to 20 from 49.

Source Interlink CFO Marc Fierman credits part of the improvement to an initiative that converts many customers from a traditional wholesaler/retailer relationship to a scan-based trading relationship. Under that model, retailers aren't billed for an item and don't pay for it until it sells at the retail level. That has the effect of boosting inventories for the wholesaler — in this case, Source Interlink — but from a working-capital perspective those increases are more than off set by a reduction in receivables. "Converting to scan-based trading also results in significant operational savings for both us and the retailer," Fierman says, "as neither has to continue to perform the processes to hand off inventory at the store level."

Striking success stories at MEMC, Terra, and Source Interlink were exceptions in 2007, when the largest U.S. companies (excluding automakers) generally recorded only marginal improvement in DWC, down to 38.2 days from 38.4 a year earlier. But that slight improvement outpaced Europe's largest public companies (also excluding automakers), whose DWC climbed to 47.3 days from 46.8 the prior year.

A prolonged recession may tempt managers to take their eyes off short-term working-capital goals, but managers who stray for long face perilous consequences. Slack working-capital performance may not decide a company's fate from one quarter to the next, but in the long run it will certainly dull the competitive edge.

Randy Myers is a contributing editor of CFO.

How Working Capital Works

Days Sales Outstanding: AR/(total revenue/365)
Year-end trade receivables net of allowance for doubtful accounts, plus financial receivables, divided by one day of average revenue.
A decrease in DSO represents an improvement, an increase a deterioration. In the accompanying charts, companies marked with an asterisk have securitized receivables, which improve DSO through financing alternatives without improving the underlying customer-to-cash processes such as credit-risk assessment, billing, collections, and dispute management. The scorecard eliminates this distortion by adding securitized receivables back on the balance sheet before calculating DSO.

Days Inventory Outstanding: Inventory/(total revenue/365)
Year-end inventory divided by one day of average revenue.
A decrease is an improvement, an increase a deterioration.

Days Payables Outstanding: AP/(total revenue/365)
Year-end trade payables divided by one day of average revenue.
An increase in DPO is an improvement, a decrease a deterioration. For purposes of the survey, payables exclude accrued expenses.

Days Working Capital: (AR + inventory - AP)/(total revenue/365)
Year-end net working capital (trade receivables plus inventory, minus AP) divided by one day of average revenue.
The lower the number of days, the better. The percentage change is marked N/M (not meaningful) if DWC moved from a positive to a negative number or vice versa.

Note: Many companies use cost of goods sold instead of net sales when calculating DPO and DIO. Our methodology, however, uses net sales across the four working-capital categories to allow a balanced comparison.

This year's survey uses the Global Industry Classification Standard to categorize companies.

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