Treasury Today Country Profiles in association with Citi

European corporates beat US peers on working capital improvements

mud runners in a muddy race

Some of the largest listed corporates in Europe are reaping the rewards of concentrating their efforts on managing working capital more efficiently. However, there remain areas where there is still work to be done.

Listed corporates in Europe are beginning to reap the rewards from focusing on working capital, according to new research published last week.

The European Working Capital Survey, compiled by working capital consultancy group REL, found that some of the largest companies in Europe experienced reduced costs and debt while at the same time benefitting from increased cash-on-hand and free cash flow in the year 2012-2013.

The study, which is based on the 2013 published accounts of nearly 1,000 corporates, compares the effectiveness of companies’ collections from customers, management of inventory, and payment of suppliers on a year-on-year basis. REL said that despite falling European GDP (down 0.1%), which is impacting corporates’ revenues and profit margins (down 1.6% and 5.6% respectively), European corporates managed to reduce the cost of goods sold by 1.2% and the total debt by 1.6%. Cash on hand and free cash flow increased by 2.1% and 8.1% respectively.

Furthermore, it appears European corporates are outdoing US firms in this respect. “European companies are performing much better than US ones,” Jonas Schoefer, Associate Principal at REL, tells Treasury Today. “They put a much higher priority on working capital, with clear year-on-year improvements, whereas if you look at our analysis of the US, these companies have yo-yoed back to pre-financial crisis levels. This is especially interesting because US corporates are likely to get interest rate increases, while European corporates look set to have low interest rates for some time to come.”

According to the study, days working capital (DWC) – a key measure of a company’s cash conversion cycle – has improved by 2% since 2012.

Debt difficulties

So, why are European corporates focusing on working capital today? “European companies are deep in debt,” says REL’s Schoefer. “I think the angst of the next bubble has arrived in the minds of executives already and they are either currently having difficulty getting loans already, or they are assuming this will be the case in the not-too-distant future.”

Despite the reported progress in working capital management in Europe, there remains room for improvement. The research uncovered a €900 billion (equivalent to 8% of European GDP) ‘total improvement opportunity’, comprising improvement opportunities of €300 billion in payables, €296 billion in inventory, and €293 billion in receivables (see chart 1 below).

Chart 1: Working Capital Opportunity Assessment
Chart 1: Working Capital Opportunity Assessment

Source: REL

Schoefer identifies cash-on-hand as one area where European corporates can still improve. “Companies are not really paying off their debt; they are filling their coffers with cash instead of paying back credit facilities,” he says. “This is fine in a situation where interest rates are as low as they are, but this cash should not lie idle. If European companies are looking at growing, they need to use these cash reserves to invest in their future.”

The upper quartile of the group of corporates studied in the research operate with 60% less working capital than typical companies in their respective industries, according to REL. These companies collect from customers two-and-a-half weeks sooner than their peers, pay their suppliers two-and-a-half weeks later, have almost 70% less inventory.

Only one corporate analysed by REL – BMW AG – had recorded improvements in all three elements of days working capital (namely payables, inventory and receivables) every year for the past three years. Indeed, only 14% of those analysed managed to improve total days working capital during this same period.

Corporate culture

REL says the research encourages competition in working capital management. “The message to those that have started on this path is very much to keep going and to those that haven’t to get their act together or otherwise risk reducing their ability to compete with their more efficient peers in their respective industries,” said Guy Cabeke, Associate Principal at REL in a statement on the study.

REL concludes that improvements in free cash flow performance are being driven by a culture where cash hoarding and cheap debt financing are accepted processes. “Corporate cash performance, or free cash flow, represents the cash that a company is able to generate after laying out the money required to maintain or expand its asset base. This makes it important because it allows a company to pursue opportunities like acquisitions, develop new products or reduce debt, ultimately enhancing shareholder value,” said the working capital consultancy in the statement.

Treasury Today’s European Corporate Treasury Benchmarking Study 2014 is now open – this looks in detail at companies’ working capital KPIs. Participate today and receive a personalised benchmarking report.