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Cash flow management

10 Ways to Impro...

Spend Trends Home

10 ways to improve working capital and increase efficiency

Cash-flow-management-improve-working-capital-02
Cash-flow-management-improve-working-capital-02

10 ways to improve working capital and increase efficiency

Cash-flow-management-improve-working-capital-02
Cash-flow-management-improve-working-capital-02
  • Introduction
  • How to calculate working capital
  • 5 obstacles you may run into while improving working capital
  • 10 proven ways to improve working capital
  • How can Brex help me improve my working capital?
  • Make sure you are well-positioned for future opportunities
  • Introduction
  • How to calculate working capital
  • 5 obstacles you may run into while improving working capital
  • 10 proven ways to improve working capital
  • How can Brex help me improve my working capital?
  • Make sure you are well-positioned for future opportunities

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Introduction

Effectively managing working capital is important for the financial health and operational success of any business. Working capital is the lifeblood that keeps day-to-day operations running smoothly, enables growth, and provides a buffer against unexpected challenges. However, improving working capital is often easier said than done, with many companies facing significant obstacles in their efforts to optimize their cash flow and financial efficiency.

This article dives into the world of working capital management. We'll start by simplifying the concept, exploring how it's calculated and why it matters. Then, we'll tackle the five major obstacles that companies often face when trying to improve their working capital position. From limited financial visibility in global operations to employee resistance to change, these challenges can significantly impact a company's financial health.

But knowledge of challenges is just the beginning. We'll also present nine proven strategies to enhance your working capital, offering practical, actionable advice that you can implement in your business. These strategies range from implementing robust cash flow forecasting to leveraging cutting-edge financial technologies.

Whether you're a small startup or a multinational corporation, the insights and strategies presented here offer a comprehensive roadmap for optimizing your working capital. By the end of this article, you'll be equipped with the knowledge and tools to optimize your working capital, improve your financial efficiency, and position your business for sustainable growth and success.

How to calculate working capital

Working capital is calculated using a simple formula that compares a company's current assets to its current liabilities. Here's a detailed explanation:

Working Capital = Current Assets - Current Liabilities

Current assets typically include cash, short-term investments, accounts receivable, inventory, and other liquid assets that can be converted to cash within a year. Current liabilities encompass accounts payable, short-term debt, the current portion of long-term debt, accrued expenses, and taxes payable.

5 obstacles you may run into while improving working capital

Improving working capital is a critical goal for many businesses, but the path to optimization is often fraught with challenges. In this section, we'll explore five major obstacles that companies frequently encounter when striving to enhance their working capital management, providing insights into each issue and offering practical solutions to overcome them.

1. Limited real-time financial visibility across global operations

Multinational corporations often grapple with the challenge of obtaining a comprehensive, real-time view of their financial position across various subsidiaries. This issue is particularly acute when different regions operate on disparate Enterprise Resource Planning (ERP) systems. For instance, a company with operations in the US, Europe, and Asia might use SAP in one region, Oracle in another, and a local system in the third. This fragmentation can result in cash being trapped in certain subsidiaries while others face shortages, missed opportunities for internal funding leading to unnecessary external borrowing, and inefficient use of excess cash that could be invested or used to pay down debt. A real-world example might be a global manufacturing company with $5 million in excess cash in its European subsidiary, while simultaneously taking out a $3 million short-term loan for its US operations, simply due to lack of visibility into global cash positions. This situation not only increases interest expenses but also reduces overall financial efficiency.

2. Incompatible financial systems creating data silos

Many organizations operate with a patchwork of financial systems that don't integrate seamlessly, creating significant data silos. It's not uncommon to find Accounts Payable running on SAP, Accounts Receivable on Oracle, and Inventory Management relying on a custom-built solution. This fragmentation leads to a host of issues, including inconsistent data across systems (such as different payment terms recorded for the same supplier in AP and AR systems), time-consuming manual expense reconciliation processes that can take up to 5-10 business days each month, and an increased risk of errors, with studies showing error rates as high as 1-3% in manual data entry. To illustrate, a mid-sized retailer might spend 40 hours per month reconciling inventory data between its point-of-sale system and its financial software. This not only consumes valuable employee time but also leads to delayed financial reporting and decision-making, potentially missing out on timely opportunities to optimize working capital.

3. Inefficient processes for capturing early payment discounts

Many companies miss out on substantial savings from early payment discounts due to inefficient processes and systems. This often stems from lengthy approval processes (such as requiring 3-4 levels of approval for payments over $10,000), lack of accurate cash flow forecasting to identify funds available for early payments, and disconnected systems that don't automatically flag invoices eligible for discounts. The financial impact of this inefficiency can be significant. For instance, a company with $50 million in annual purchases could be missing out on $1 million in savings by not consistently capturing 2/10 net 30 discounts (2% discount if paid within 10 days, otherwise full payment due in 30 days). This represents a direct hit to the bottom line and a missed opportunity to improve working capital efficiency. Implementing automated systems to identify discount opportunities and streamline approval processes could help companies capture these savings and improve their cash position.

4. Employee resistance to change

Transitioning from traditional payment methods to modern digital solutions often faces significant internal resistance, which can severely hamper working capital optimization efforts. For example, Accounts Payable staff accustomed to printing and mailing checks may resist adopting electronic payment systems due to familiarity with existing processes or fear of job obsolescence. Similarly, managers may be reluctant to switch to virtual cards due to perceived complexity or security concerns. This resistance can lead to delayed implementation of new systems (often extending project timelines by 3-6 months), reduced adoption rates (sometimes as low as 40-50% in the first year), and diminished ROI on new technology investments. To overcome this, companies need to invest in change management programs, provide comprehensive training, and clearly communicate the benefits of new systems to all stakeholders. Gradual implementation and showcasing early wins can also help build confidence and drive adoption.

5. Inadequate supplier risk monitoring

Many companies lack robust systems for monitoring supplier financial health, exposing them to significant risks that can impact working capital. This often manifests as an absence of real-time financial data on key suppliers, infrequent supplier audits (often conducted annually or less), and a lack of automated alerts for supplier financial distress signals. The consequences of this inadequacy can be severe. For example, a major automotive manufacturer might not detect that a crucial parts supplier is facing bankruptcy until shipments are delayed, potentially halting production and costing millions in lost revenue. To mitigate this risk, companies should implement supplier risk scoring systems that consider factors like payment history, public financial data, and news sentiment. Regular financial reviews (ideally quarterly) should be conducted for top suppliers representing 80% of spend. Additionally, setting up automated alerts for changes in supplier credit ratings or significant stock price movements can provide early warning signs of potential issues, allowing proactive measures to be taken to protect working capital and ensure supply chain continuity.

By addressing these specific obstacles, companies can significantly enhance their working capital management, leading to improved financial performance and operational efficiency.

10 proven ways to improve working capital

Maximizing working capital is an ongoing challenge for businesses of all sizes. Explore these ten powerful techniques that successful companies use to enhance their financial agility and performance.

1. Implement robust cash flow forecasting

Develop detailed, rolling 13-week cash flow forecasts that incorporate data from all departments. For example, include upcoming large payments from the accounts payable department, expected customer payments from accounts receivable, and projected sales from the sales team. Use this forecast to anticipate cash shortfalls or surpluses and make informed decisions about working capital management.

2. Negotiate favorable payment terms with suppliers

Review your top suppliers by spend and negotiate extended payment terms. For example, if you're currently on 30-day terms, try to negotiate 45 or 60-day terms. Be prepared to offer something in return, such as a commitment to higher purchase volumes or faster payment on a portion of the invoice.

3. Optimize inventory management

Implement a just-in-time (JIT) inventory system to reduce the amount of capital tied up in stock. Use data analytics to predict demand more accurately, allowing you to maintain lower safety stock levels without risking stockouts. For perishable goods, implement a first-in-first-out (FIFO) system to reduce waste and write-offs.

4. Speed up the collection of receivables

Offer early payment discounts to incentivize customers to pay faster. For example, offer a 2% discount for payments made within 10 days. Implement automated dunning processes that send reminder emails at set intervals (e.g., 3 days before due, on the due date, 3 days after due). For large B2B customers, assign dedicated account managers to follow up on overdue invoices personally.

6. Cut unnecessary expenses

Conduct a zero-based budgeting exercise where every expense must be justified. Look for areas of overspend, such as unused software subscriptions or excessive travel expenses. Implement stricter expense policies for non-essential spending, requiring senior management sign-off for expenses over a certain threshold.

7. Increase sales revenue

Invest in targeted marketing campaigns to attract new customers. For example, use data analytics to identify your most profitable customer segments and create personalized marketing campaigns to attract similar customers. Implement a customer relationship management (CRM) system to improve lead tracking and conversion rates. Consider dynamic pricing strategies to optimize revenue based on demand and competitor pricing.

8. Automate accounts payable tasks

Use a comprehensive accounts payable automation solution to streamline your payment processes and improve working capital management. Utilizing this type of software allows companies to capture invoice data using OCR technology with high accuracy, reducing manual data entry errors. Set up automated approval workflows based on predefined rules, such as routing high-value invoices to specific approvers. Configure the system to batch-process payments on a regular schedule, optimizing cash flow while ensuring timely payments to suppliers. This automation can significantly reduce processing costs and time, providing better control over cash outflows.

9. Use a corporate credit that offers reward and extended payment terms

Leverage a corporate credit card program that offers rewards and extended payment terms to optimize your working capital. Choose a card that provides cash back or points on your business expenses, effectively reducing your costs. For example, a card offering 1.5% cash back on all purchases could save you $15,000 annually on $1 million of expenses. It's important to note that a card offering miles, points, or multiple rewards options may provide even greater value and flexibility depending on your business needs and spending patterns.

10. Monitor and manage cash conversion cycles

Closely track and optimize your cash conversion cycle (CCC) to improve working capital management. Calculate your CCC by adding days inventory outstanding and days sales outstanding, then subtracting days payables outstanding. Set targets to reduce your CCC and implement strategies to decrease days inventory outstanding and days sales outstanding. Simultaneously, work on extending days payables outstanding by negotiating longer payment terms with suppliers.

Implementing these ten strategies can significantly enhance your company's working capital position, leading to improved financial flexibility and operational efficiency. Remember, the key to success lies not just in adopting these methods, but in consistently monitoring their effectiveness and adapting them to your specific business needs and market conditions.

How can Brex help me improve my working capital?

Brex's innovative financial solutions help improve your working capital management. Explore how Brex's suite of tools can help bring more transparency and flexibility to your finances and transform your cash flow strategy.

Automated invoice processing

Brex's accounts payable automation software makes invoice management easier by reducing processing time and errors. It captures invoice data using OCR technology with 99% accuracy and sets up automated approval workflows. For example, invoices over $10,000 can be automatically routed to the CFO, while recurring subscriptions under $1,000 are auto-approved. This system can reduce invoice processing time from weeks to days and cut processing costs by up to 60%, freeing up cash faster and improving working capital management.

Cash back credit card rewards

Brex offers substantial cash back rewards on business expenses. For example, you can earn 7x points on rideshare services, 4x on travel booked through Brex travel, 3x on restaurants, 2x on recurring software subscriptions, and 1x on all other purchases. As part of our Brex Exclusive rewards program, these points can then be redeemed for cash back at a rate of 0.6 cent per point or 1 cent per point on Brex travel. You can even use your points to pay off your card statement. For a company spending $100,000 per month across these categories, this could mean tens of thousands of dollars in annual value, either as cash back or statement credits. This allows companies to directly improve their working capital position through cash back, depending on their current priorities and cash flow management situation. You can also redeem Brex points for other business expenses, like billboard ads in Times Square, executive coaching, and team offsites.

Integrated bill pay solution

Brex's automated bill payment solution integrates seamlessly with accounting software like QuickBooks, NetSuite, and Sage Intacct. This integration allows for real-time synchronization of financial data and automated payment scheduling. For instance, you can set up rules to automatically pay recurring bills on their due dates, maximizing your days payable outstanding (DPO) without risking late fees. The system can also identify early payment discount opportunities. If a vendor offers a 2/10 net 30 term, Brex can automatically schedule the payment for day 10, capturing the 2% discount and improving your cost of goods sold. Brex's AP solution also allows you to pay vendors by virtual card, which not only allows for fast, secure payments, it also enables you to earn rewards on all your large vendor spend.

Real-time expense tracking and reporting

Brex's spend management software solution provides real-time visibility into all company expenses. Employees can easily upload receipts via mobile app, and expenses are automatically categorized and matched to transactions. This real-time tracking allows finance teams to close books faster, often reducing month-end close time by up to 5 days. Faster closing means quicker insights into cash flow and working capital, enabling more timely and informed financial decisions.

With Brex, improving your working capital is not just a possibility—it's a tangible reality that can transform your business operations. By integrating Brex's innovative solutions into your financial processes, you're not just optimizing your working capital; you're setting your business up for long-term success and growth.

Make sure you are well-positioned for future opportunities

Improving working capital is an ongoing process that requires diligence, strategy, and adaptability. By addressing the common obstacles and implementing the proven strategies outlined in this guide, businesses can significantly enhance their financial performance and operational efficiency. From leveraging automation technology to optimizing inventory management and negotiating better terms with suppliers, each step contributes to a stronger working capital position.

Moreover, Brex can provide additional tools and resources to help improve processes and make every dollar count. Our suite of solutions, from automated invoice processing to reward-rich corporate cards, offers businesses powerful means to optimize their financial operations. See for yourself by getting a demo today.

Remember, effective working capital management is not just about short-term financial health; it's about creating a solid foundation for long-term growth and success. By continually focusing on and refining your working capital strategies, you can ensure your business remains agile, resilient, and well-positioned to capitalize on future opportunities.

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See what Brex can do for you.

Learn how our spend platform can increase the strategic impact of your finance team and future-proof your company.

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