Poor capital management costs industry billions

IT companies lose billions annually through inefficient management of their working capital, a problem that is exacerbated when the economy worsens as it did during 2001, according to a study to be released Monday by REL Consultancy Group.

REL studied operational data from 90 of the largest publicly traded IT companies in the United States, each with annual revenue of at least US$450 million. Those companies took an average of 69 days to convert sales into cash in 2001, nine days longer than the average in 2000 — a lag that cost $10 billion in lost cash flow, according to REL. In other words, vendors took longer to collect on their sales.

When the length of time between making a sale and receiving revenue stretches out, companies miss out on having that cash available for paying off debts, developing new products and making other investments. Decreasing working capital — the difference between a company’s assets and liabilities — frees up cash and makes it easier for a company to quickly respond to market changes. REL, in London, focuses on working capital reduction, studying the quarterly cash flow of major companies and advising companies such as IBM Corp., Hewlett-Packard Co. and Sun Microsystems Inc.

Companies near the start of the IT components supply chain, such as semiconductor equipment manufacturers, suffered most during 2001, according to Stephan Thomas, a senior vice president at REL. Revenue for that segment of the IT market dropped dramatically last year. With that drop came excess inventory and an extended window for collecting owed payments, adding another 20 days to the semiconductor industry’s average lag between making a sale and cashing in on it, according to REL’s research.

Information flow is one key to reducing such lags, Thomas said. As buying slowed down and excess inventory began building in 2001, major components buyers — most of them IT vendors themselves — began warning their suppliers of reduced demand forecasts and impending inventory write-offs. But with most buyers communicating only with their immediate suppliers, industrywide production slowed too gradually.

That’s finally beginning to change, Thomas said, as companies recognize the value of broader communication.

“The trend that’s happening now is more and more transparency in the supply chains. More people are sharing information two or three steps down the supply chain,” he said.

Wholesalers such as Merisel Inc. and Ingram Micro Inc. do the best job in the IT industry of managing working capital, converting sales to cash within an average of 20 days in 2001, down from 24 days in 2000, according to REL.

Several computer vendors also are standouts, with a handful even achieving negative cash cycles, in which they collect revenue before incurring the cost of making products. Dell Computer Corp. and Apple Computer Inc. both achieved negative cash cycles under REL’s formula, thanks in part to outsourcing manufacturing and focusing on direct, build-to-order sales.

“With their very direct business models and their ability to get cash from a customer before even starting production of the machines, Dell and Apple could potentially operate like a bank,” Thomas said. “They could make money on the money they collect in advance.”

A direct business model isn’t necessary for efficient capital utilization, though: Most companies can improve their cash flow by streamlining their business processes, Thomas said. Supplier payments are one area to study. Many companies have consolidated their supplier networks in recent years to a handful of key vendors, Thomas noted, which gives them a significant opportunity to negotiate favorable prices and payment terms.

REL’s study, scheduled for release Monday, will be available free to those interested, Thomas said. REL can be contacted online at http://www.relconsult.com/.