Working Capital Scorecard 2023: Supplier Clout Limits Liquidity Boost

Ask a CFO what dashboard they review first thing in the morning, and most say cash-related metrics — accounts receivable, accounts payable, and the latest payments to hit the firm's bank account.

High inflation, higher interest rates, and significant wage increases focused CFOs on short-term liquidity. Time is always money, but now it’s also very expensive money.

This is why it’s not surprising that many companies got working capital religion in 2022. After two years of elevated receivables and inventories, they put more effort into efficiently managing inventory and optimizing the timing of cash flows.

The 2023 CFO/The Hackett Group working capital scorecard, released Wednesday, reveals that last year many of the top 1,000 publicly held non-financial U.S. companies collected on invoices faster and reduced inventory or otherwise improved inventory management.

But in a significant reversal, companies paid their suppliers quicker in fiscal year 2022 — by 4.7 days — giving up some of the liquidity gains on the asset side.

The CFO/Hackett Group scorecard, now in its 26th year, found that for the 1,000 companies studied days sales outstanding (DSO) fell 1.9 days, to 38.7, the lowest it’s been since 2016. Thirty-three of the 49 industries improved DSO performance.

“Companies acted to collect receivables faster and prevent the erosion of money’s purchasing power caused by high inflation,” noted analysts from The Hackett Group.

A loosening of supply chain constraints in 2022 prompted companies to begin right-sizing their stocks and adjusting to shifting business and consumer demands. Days inventory outstanding (DIO) fell 1.5 days, or 3%, to 54.9. But readjusting from the need to hold some amount of “safety stock" when supply chains were slowed down was not quick or easy. Only 19 industries reduced the average number of days they held inventory before turning it into sales.

The payables category produced a widespread change. Large companies paid suppliers faster in 36 of the 49 industries, reversing a near-decade-long trend. Buyer leverage over suppliers had led to holding invoices as long as possible to maximize liquidity. Last year, however, days payable outstanding (DPO) decreased 4.7 days, to 57.2, after hitting a 10-year high of 61.9 in 2021.

Slower Cash Conversion

When these metrics are plugged into the equation for conversion cycle (CCC) — how many days it takes a company to convert the cash it spends on inventory back into cash by selling product — the result is an increase. CCC rose to 1.2 days to 36.4 in 2022, a reading better than 7 out of the past 10 years but still worse than 2021 by 3.4%.

“The cost of capital is increasing, and it will make it difficult for some companies to access additional credit if required,” said István Bodó, a director at the Hackett Group. “They have to improve their working capital to release cash to fund strategic investments and to make sure that they do not fall behind and maintain their competitiveness.”

DSO: Cash in the Door

(Year-end trade receivables net of allowance for doubtful accounts, divided by one day of average revenue)

Revenue for the 1,000 companies in the Hackett study rose 15%, while accounts receivable increased about 9%. DSO thus declined for the second straight year. Median performers lowered their DSO to about 45 days, with top-quartile performers recording a DSO of 26 days.

One of the causes of the consecutive drop in DSO was the expansion of subscription models and business-to-consumer sales channels, resulting in faster customer payments.

Uncertainty in 2022 also helped improve receivables performance. Lingering supply chain issues in some industries caused buyers to prepay suppliers to shore up access to goods.

Hess lowered DSO by 36%.

In the oil and gas industry, for example, supply reduction and uncertainty in Europe combined with an increase in demand “put the oil and gas companies in a favorable position to negotiate shorter customer payment terms and to enforce timely payments according to terms,” according to The Hackett Group report. Oil and gas companies lowered DSO by 22% last year to 29 days.

Finally, lower DSOs can also come from better revenue cycle management (RCM). Surgical support services company Assure Holdings (not in the Hackett 1,000) built a “sophisticated” data-driven RCM function last year to deal with the obstacles to healthcare reimbursement.

The function reduced average days to collect to 46 days from 61 days in the first quarter of 2023, said CEO John Allen Farlinger on the company’s May earnings call (according to the S&P Global transcript).

DPO: Historic Reversal

(Year-end trade accounts payable balance divided by one day of average cost of goods sold, excluding depreciation and amortization)

When Flotek Industries CFO J. Bond Clement was asked about the timeline for securing an asset-based loan on an April 20 analyst call, he explained how the chemistry technologies company funds the business with cash on hand: by setting customer terms on a shorter schedule than the schedule on which it pays suppliers, which can go out 60 days or more. While Flotek isn’t in the Hackett 1,000, it’s way of maximizing liquidity might be less fruitful in the next few years.

That’s because 2022 showed “the balance of power has shifted toward suppliers,” according to The Hackett Group analysts.

Supply assurance continues to be a priority for most industries, as companies continue to balance the trade-off between just-in-time and just-in-case. — Shawn Townsend, The Hackett Group

DPO performance deteriorated (fell) for the first time in five years in 2022. There has always been a ceiling on DPO improvements — suppliers eventually have to get paid — and some industries in the U.S. may have reached it.

But the degradation of the DPO measure in 2022 was also down to the aftereffects of the pandemic’s supply chain problems. Worsening DPO was experienced most significantly in goods-producing industries heavily dependent on commodities that saw shortages last year, according to Hackett. They include consumer durables, recreational products, oil & gas, and pulp, paper, and forest products.

As buyers change supply chain strategies to build in redundant sources and find new suppliers and supplier locations, even as some competition for scarce parts and inputs continues, payment terms have become less important.

“Supply assurance continues to be a priority for most industries, as companies continue to balance the trade-off between just-in-time and just-in-case,” said Shawn Townsend, a director at the Hackett Group.

Another factor is the new GAAP rules around supply chain finance (SCF), which require companies to disclose the terms and sizes of supply chain financing programs. The rules have dampened the creation of new SCF programs, which get the supplier paid quickly but allow the customer to delay payment.

Troubles with regional banks could also reduce the use of SCF, as some financial institutions may look to shrink their balance sheets and avoid non-traditional assets. “The bigger regional banks have had a positive impact on the supply chain because they provide the liquidity to the supply base,” said Townsend.

DIO: Repositioning Stocks

(Year-end inventory balance divided by one-day average cost of goods sold, excluding depreciation and amortization)

Days inventory outstanding fell for the second straight year, as inventory as a percentage of revenue for the Hackett 1,000 decreased one percentage point, to 9.2%. But 54.9 days of inventory is still less than three days off the 10-year peak of 57.4 days recorded during the height of the pandemic. (See Inventory Adjustment Required: Working Capital Scorecard 2023.)

Hackett Group analysts say DIO as a working capital measure can be the most difficult to improve. It's also highly unpredictable. And as a signaling system for performance, it's unreliable. Lower days inventory can be positive if a company works down excess inventory. But waning customer demand or inventory write-downs can also reduce DIO. And higher DIO can be a positive — reflecting greater sales growth projections, for example.

As part of the post-pandemic supply chain and logistics rethinking, in 2022, companies worked on reducing inventory and adjusting it to better meet customer demand. Offsetting the higher costs of materials and labor was also a motivator, according to The Hackett Group.

Dell Technologies, for example, reduced DIO to 23 days from 28 last year as it sought to normalize lead times and backlog as inventory had built up during a slow PC sales year. On a June 1 earnings call, CFO Tom Sweet said Dell cut inventory by $800 million in the first quarter this year and $2.3 billion over the previous 12 months. Dell also benefited from strong collections (reducing DSO by 2% in 2022).

Inventory is "clean and well positioned" at Dick's.

Dick’s Sporting Goods, on the other hand, saw DIO expand 15% in 2022, with inventory levels up 7% year-over-year in its first fiscal quarter. Still, the company has “much better inventory availability and inventory position this year compared [with] last year,” said CFO Navdeep Gupta on May 23. With supply chain disruptions in its wake, product in inventory is “clean and well positioned” for summer, and Dick’s expects better sales growth and gross margins.

Not all industries fully control their fate when it comes to DIO. Household goods company Central Garden & Pet saw DIO bulge 36% in 2022 from planned capacity expansion, according to its May 23 second-quarter earnings call. But many retailers performed widespread destocking in 2022.

And in January 2023, they didn’t ship a lot of inventory to “set the stores for the upcoming season,” said Central Garden & Pet executive John D. Walker. “We've seen a more measured approach this year, shifting toward just-in-time ordering. So that's pushed inventory back into our barns waiting for the season to break.”

The large, top-performing retailers have been able to step back and readjust their inventory as consumer demand shifts, in some cases, to value products, said James Ancius, a director at The Hackett Group.

All organizations need to continue the effort undertaken post-pandemic to revisit product and portfolio streamlining programs, the Hackett Group analysts said. Visibility and agility are the answers to addressing bloated inventories, said Townsend.

“It's about having visibility throughout the end-to-end supply chain processes, understanding changing demand signals very quickly, and communicating them across the organization.”

The Hackett Group Working Capital Survey and Scorecard calculates working capital performance based on the latest publicly available annual financial statements of the 1,000 largest non-financial companies with headquarters in the United States, sourced from FactSet/FactSet Fundamentals.