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Why effective cash management can be crucial for business success
In this episode of The Better Finance Podcast, host Myles Corson explores cash management with Peter Kingma, EY-Parthenon Americas Working Capital Consulting Services Leader.
Myles Corson interviews Peter Kingma, the EY-Parthenon Americas Working Capital Consulting Services Leader, to discuss the critical yet often overlooked aspect of cash management in business. Peter, drawing on his 15 years of experience at the EY organization and his recent book Cash is King, calls out the need for businesses to focus on cash flow, along with revenue and profitability. He argues that companies should prioritize all three metrics.
During the conversation, Peter introduces the concept of a "cash leadership office" — an idea that instills a culture of placing cash management on an equal footing with other financial metrics. He believes that this concept is essential for finance leaders to unlock the potential for value creation and can help overcome a lack of visibility for informed decision-making. He also cites the findings of a proprietary EY resiliency index — How to drive operational resilience (via EY.com US) — highlighting the connection between adept cash management and the capacity of an enterprise to be resilient to market and economic instability.
Peter recommends businesses to start improving liquidity by focusing on procurement processes, enhancing billing and collections, as well as optimizing supply chain management. He also stresses the importance of leveraging existing technology before jumping too quickly onto the artificial intelligence (AI) bandwagon — advocating a back-to-basics approach that maximizes current investments.
Key takeaways:
Prioritize cash management equally with revenue and profitability for financial health.
Establish a “cash leadership office” to help cultivate a culture more focused on liquidity and cash flow.
Focus on precise cash forecasting to enable informed and strategic business decisions.
For your convenience, full text transcript of this podcast is also available.
Peter Kingma
“What a cash leadership office really is, is a very hyper-focused effort to bring to light who has decision rights, to bring the tools and data necessary to be able to make those informed decisions, but to put cash on an equal playing field with revenue and with profitability.”
Myles Corson
That was Peter Kingma, author of the book “Cash is King”, and EY Americas Working Capital Consulting Services Leader. I’m Myles Corson from the EY organization, host of The EY Better Finance podcast. A series that explores the changing dynamics of the business world and what it means for finance leaders of today and tomorrow by sharing insights from global leaders on key topics affecting the world of corporate finance.
Welcome to this episode of podcast, where we look at the world of cash management and working capital. We’ll explore insights from Peter's book, discussing the critical role of cash forecasting, strategic decision-making and the importance of aligning business metrics.
Corson
Pete, thanks for joining us today. Fantastic to have you on.
Kingma
Thanks, Myles. Great to be here.
Corson
As we get started, can you share a little bit about your current role and the background and how you got to where you are today?
Kingma
Indeed. So, I lead the working capital practice for EY in the Americas. I've been a Partner with EY-Parthenon for 15 years, at a boutique firm before that that did working capital, and many of us came over about 15 years ago to build this practice. We focus mostly on large corporate and private equity clients in helping them with all aspects of liquidity, either the generation of cash or the preservation of cash, including forecasting, etcetera in their businesses.
Corson
Fantastic. So, the catalyst for the conversation today is a book that you've published recently, “Cash is King.” Can you give us a little bit of background on how you came to write that and what are some of the key messages that you're trying to communicate with the book?
Kingma
So, what I've observed is, I think in business, we do a very good job of explaining revenue and we do a decent job of explaining the importance of profitability. In big enterprises, most people understand the role they play in either of those two equations. So, they understand how the role they play in generating sales, generating revenue or in containing costs, for example, but I don't think we do a very good job with explaining the balance sheet and explaining profit and explaining cash.
So, people make decisions in the enterprise on a daily basis, perhaps without the insight into how it impacts cash. Let me give you an example. We've got sales teams that love to chase new revenue and we love sales. It's exciting and so they chase new revenue, they get a sale and at the end, before the contract is signed, then they start talking about commercial terms. Like maybe it comes with 90-day payment terms, for example, or it may come with certain service level commitments, or it could even be as mundane as whose contract is it written on.
All those things add up and have an impact on a company or an enterprise's ability to hold on to cash or to generate that cash and so the book really explores the concepts of cash management, working capital management, etcetera, and how to put that on parity with revenue and profitability so that you can make the best-informed decisions with regard to capital.
Corson
There's a great distillation of obviously all of that experience that you described at the top of the episode. From our perspective, obviously the future finance organization needs to be very focused on value and the value creation aspects and when we talk to CFOs [Chief Financial Officers], senior finance executives, that is such the focus of the conversation, right? How do we get from where we've been to be more of that business partner, be involved in the value creation story. As you look back on some of the stories you've shared, the experiences you've got, what is it that prevents or has prevented historically finance leaders from unlocking that value creation potential and what do they need to doing differently going forward?
Kingma
Yeah, I think it, kind of, goes back to that decision rights topic I was explaining just a minute ago that finance at the end of the day will need operations, will need the rest of the enterprise to make informed decisions. They can't make all the decisions that are going to impact, in this particular case, liquidity. And so, we need the enterprise to understand how to make those decisions.
We need to give them the tools, we need to give them the training, but we first need to start by understanding who has those decision rights, who is making a decision on a daily basis that may impact inventory, that may impact how you procure, and so that's where I think the limitations have been is that often times in these organizations, people believe that the cost of capital is free and everybody wants additional capital for whatever new equipment expansion and all that in the enterprise, but too often it's only the folks and frankly, sometimes only in senior finance roles that really then see the cumulative effect of all these decisions and often times don't see who is making the decisions on a daily basis.
That's what I think holds large organizations back often times is not having that insight into who's making a decision on a daily basis that's going to positively or negatively impact cash.
Corson
As you said, lack of information and visibility is really important, and you also highlighted we've been through a period where debt was in effect free or a period of very low to the zero interest rates, which has now changed very significantly. So, there's a very different fact pattern. It really highlights the importance of cash forecasting. Can you talk about why that is so important and how do companies need to adjust to be able to really accurately forecast cash?
Kingma
Let me give you an example, Myles, from back when I started my career right out of college, I was living paycheck to paycheck. My employer paid me on the 1st and the 15th. So, I knew when I was going to get paid and fortunately my rent was always due on the 5th of the month. So, I knew when I would have to make an expenditure. Let's say my employer said, hey Pete, I'm going to pay you 20% more, but I'm not going to tell you what day I'm going to pay you.
It's just going to be sometime during the month and then let's say my landlord said, hey, Pete, I'll knock 100 bucks off your rent each month but again, I'm going to knock on your door whenever I want to collect that during the month. So, in that scenario, I've got more revenue, more pay from my employer and I've got less expense, but I'm going to have to hang on to cash longer because I can't forecast when that input and that output is going to happen.
So, cash is all about timing. And, so to your point, Myles, forecasting is incredibly important because we need to be able to pay our bills, we need to be able to invest in the business, we need to pay our employees. So, we need to understand when we're going to get access to that cash and what those outlays are. So, critically important to as you're embarking on any sort of cash improvement or working capital improvement program, to also look at the accuracy of your forecasting processes and trying to button that up as well.
Corson
I think we can all get a very relevant example that we can all connect with why forecasting is so important. So, what is it that actually prevents companies from doing it well? What are some of the challenges that you've seen and what are some of the ways you've seen those challenges overcome?
Kingma
It goes back to all those decisions, right? And so, we make decisions on a daily basis. You know, I talked about the sales team perhaps making decisions. We also oftentimes don't incent the rest of the business to make a decision that would then have a positive or negative impact. So, if I'm paying commissions just on revenue versus collected revenue, then I've taken the incentive out of the sales team to be really focused on those contractual agreements. We may have self-inflicted wounds.
Oftentimes, what I see when I look at say, a receivable situation is in many cases, particularly if it's a business-to-business environment, most businesses don't play games. Most businesses don't hold payments back. I mean sure some do, but most businesses don't and generally the gap between whatever your best possible DSO [days sales outstanding] is and your actual DSO is generally self-inflicted. It's, I was slow to get a bill out the door. I was inaccurate with it. I didn't include the correct PO [purchase order] reference.
I sent it to the wrong location. Maybe it was I had a short shipment, but nobody in production or logistics updated and let us know that there is a short shipment and so now my customer is not going to pay me the full amount and I don't find that out until 30, 45, 60 days later when I'm trying to chase this all down. So, if I'm sitting in Treasury and I'm looking at this and thinking this is when I think I should be getting cash coming in or when I think I should be making expenditures, but there are so many moving parts in the enterprise that they have a significant limitation on that.
Now, the good news is there are good tools. I think there's good disciplines. Certainly, the advent of artificial intelligence [AI] is going to help with this a lot in managing data, but there are a lot of moving parts, and that's why I think most big organizations still struggle with the accuracy of forecasting.
Corson
So, picking up on that point about moving parts, the functional silos within organizations and how you create the collaboration and connectivity is really important. Have you seen organizations do things successfully to drive that collaboration support, which is, I think, really essential to what you're describing in terms of being able to forecast accurately?
Kingma
Yes. So, I talk about a concept in the book called “The Cash Leadership Office,” and we also talk about the concept of creating a cash culture in the business. What a cash-leadership office really is, is a very hyper-focused effort to bring to light who has decision rights, to bring the tools and data necessary to be able to make those informed decisions, but to put cash on an equal playing field with revenue and with profitability.
Some people are skeptical why do you need a separate structure, separate organization? But I would say it's because we built our enterprises largely around the P&L [profit and loss] and so we make decisions, we have incentives, we have KPIs [Key Performance Indicators], etcetera that are largely P&L-driven and are not cashflow-, statement- or balance sheet- driven.
Let me give you a couple other quick examples. Procurement: Procurement is often incented to chase the lowest cost and so they may then source from Asia, we get a lower price, but maybe it requires a longer lead time requirement or a greater minimum order quantity requirement. So now suddenly I've made a good decision on one aspect on one way of measuring, but I'm now have perhaps taken on significant more inventory or let's say you're a plant controller and you have been asked to run your assets to absorption.
So, what that means is taking a physical asset and then allocating the cost of that asset across the material that you're producing and so it really makes it a lot of good sense from a net income standpoint to do that, but that then could lead to longer production runs, which could lead to a heck of a lot more inventory than we need at any given point in time.
So having this sort of cash leadership office helps and I break this down, I break down what that CLO [Collateralized Loan Obligations] should do, but it really helps identify where we've made these kind of decisions in the business and how we've set things up that have either a negative or positive impact on cash and then giving people the tools to make informed decisions. Because it still may make sense to go and source from Asia and to get a lower price. But you want to do that with full understanding of the total economic impact that it has and making sure that people are making those decisions using data.
Corson
Great example there. So, thank you for sharing that and yeah, I think bringing together the right people with the right information to make the right decisions at the right time is such an important part of what management is about. We've come off the back of the pandemic and all the disruption that was caused there, and there's this concept of organizational resilience has obviously been at the forefront. One of the other things I know you're very involved with is the resilience study that EY produces. Can you maybe talk a little bit about the study and some of the key findings and recommendations from that?
Kingma
We looked at 5,000 global organizations and looked at them relative to their peers, how they were at managing cash and forecasting cash and found that not surprisingly, those in the upper quadrant were 20% more likely to come out of the downturn faster, and forgotten the exact percent, but a significant percent less likely to actually go into a downturn. Now that makes sense, right? Because at the end of the day, it takes capital and so if we look at what happened during the pandemic, for example, we were rushing, we had supply chain disruption. We had to pay a lot more for logistics. We had to pay a lot more for material.
I mean, we all saw it in our own personal lives, right? You know, I think I ordered toilet paper from Mexico during the pandemic at a premium for single ply. But it takes cash and it takes capital to weather those storms and so resiliency is really about that access. Now, during the pandemic, we had cheap debt, too, but that created its own problems. You know, I had a senior executive of a client tell me, well, you know, I don't really have to worry about it because the borrowing rates are so low, but then I had to remind him, yeah, but you have actually already borrowed a lot, and you have a significant debt profile and that's still even at low rates, you're going to have to service that debt and you're kind of bumping up against covenants as well.
So, even during a period of say low cost of debt, there are limitations to that and so your ability to generate cash from operations will always be not only “a” your cheapest form of cash and capital that you have access to, but it will also be the quickest form that you'll have access to, to be able to weather any sort of storm and to be more resilient.
Corson
You mentioned this cohort of higher performing more resilient enterprises, were there some common characteristics that you saw in those organizations that you can talk about?
Kingma
It kind of plays out in the work that I do as well. The clients that I tend to work with, Myles, tend to either be in the top quadrant or the lower quadrant. They're in the lower quadrant because they need help. They've got liquidity issues, ballooning inventory, whatever it might be. So, they need significant help. Then I've got profile clients that are in the top quadrant who have built cash in as part of the DNA of the culture.
They put it on an equitable playing field with revenue and with profitability, understanding that every senior leader understands that is compensated by that as a metric that they've managed to. So, they take it very seriously. So, I'd say the common characteristic of those are they have aligned their metrics, they've aligned their KPIs, they have incentives that are such, they give the operational stakeholders the type of information they need to make informed decisions, and they just keep getting better and better.
The other evidence we've seen is that those in the top quartile continue to pull further and further ahead year after year of those below them in this bottom 75% quartile. So, they tend to just keep getting better and better at managing cash. It's the sleepy ones in the middle that are really struggling. For whatever reason, they've just managed their business the same way and those are the ones that then will have a significant shock if we do have another market downturn or another supply chain disruption or some other event that's going to require quick access to capital.
Corson
You've touched on it as you've gone through, you've given some examples of metrics, but as you think about what are the key metrics of those high performing enterprises really, really focus on and religious about delivering, which ones would you highlight?
Kingma
I've got a whole chapter on metrics as well that I can talk about, but I think that the concept here is twofold. One, is what I was talking about, making sure that compensation metrics are aligned. I talked about salespeople, right? If you're only compensating sales on revenue, then you're not going to have any participation in a lot of the contractual terms and agreements. I don't really care at that point.
I'm just being compensated on revenue versus if I'm being compensated on collected revenue, which is completely different. So, you want to make sure that the metrics and KPIs are aligned to the incentives as well. The second bit is we need to align operational metrics to reflect the outcomes that we want, which makes sense, I guess, right? But we don't do that. So, let's stay with collections for a minute. Oftentimes, I'll see a collections organization that is measured on throughput.
So, how fast can I get? How much volume can I get? How quickly can I make phone calls? How many phone calls am I making? How many dunning letters am I sending out? Stuff like that. But it's not always based on outcome. What's my ability to collect faster, to solve problems faster, to avoid having to go into the collections process, to be able to have a first pass yield of getting a clean bill out that nobody touches in the collections team.
So, it's really aligning metrics operationally that then build up to a senior level. Because at the senior level, if you're a CFO, by the time you get any sort of metric, all of the work has already been done. Your ability to influence something at that point is going to be very, very challenging. You can influence going forward, but it's going to be very challenging to influence it in retrospect. So, you want to make sure that all the stages, the stakeholders have the right kind of metric that's going to incent their behavior that's aligned not just with P&L efficiency, but also effectiveness.
Corson
You mentioned changing behavior. The link to compensation metrics obviously is a great way of influencing that. As you think more broadly around what are the skillsets and mindsets that you need to have in the organization to be successful in this other, again, things you'd point to as being good examples of what organizations that are successful in doing this have in terms of those skillsets and mindsets?
Kingma
Well, I think some of the elements are what we talked about is that is a sense of ownership, a sense of agency in the organization that when I come into some businesses that aren't very focused on cash, it's this belief that cash is managed by the treasurer. Capital is something that's free. We put in our budget requests. There's no consideration for the cost of capital. Having some sense of agency and ownership in the business unit level for capital and cash is critically important.
One of the questions I often ask when I go in and if an organization say has a real inventory problem is who owns inventory? And you'd be surprised at the blank stares you get because it's well, maybe it's the business group that owns it, maybe it's product management, maybe it's the plant, somebody in logistics, but oftentimes, there's never a clean answer for that. And the reality is there are multiple owners because there's multiple people that are going to impact those decisions, but unless we've identified them and explained to them what their day-to-day decisions are that impact that, and then hold them accountable and bake that into our operating process, we're always going to have that fuzzy sort of answer.
And the CFO is probably the last person that owns inventory, that probably has the most limited ability to influence that, but probably has the front row seat of seeing the problems with ballooning inventory. Yes, I'd say the characteristics are agency alignment in making sure that people have the tools and resources they need to be able to make those informed decisions.
Corson
You mentioned the role of AI earlier on in the conversation. As you think about how technology enables this cash management focus that you've been talking about, what are either the technology aspects that organizations should be thinking about and what are successful organizations do well in this area?
Kingma
I'm going to say something that sounds probably credible right now. So, I think AI is going to be huge for sure, but I would bet you a steak dinner that most clients are not using the technology or the technology investments that they've made effectively right now. I see all kinds of instances of clients spending a lot of money on expensive enterprise resource planning [ERP] solutions and then using them as expensive typewriters, not particularly in inventory management, inventory planning. So having very expensive ERP solutions, but then doing one-off calculations on spreadsheets or a trusting that a software or a solution is going to solve a business process, which it often doesn't.
If you've got a bad process and you automate it, you just now got a more efficient bad process that's not going to be very effective. And so I'd say the first thing to do, well for sure, explore how GenAI [generative AI] is going to have an impact in the business. I'd say the first thing I'd recommend doing is looking at the investments you're already making and making sure that you're getting the most out of that versus trying to believe that automation is going to solve all the problems in the business. Because at the end of the day, the underlying processes are still what's going to drive performance.
Corson
You got a very practical recommendation there. As we wrap up, anything else that someone listening to this that's interested in starting on this journey, what are the things you'd recommend as the first areas to focus on as you try and transform your cash management processes?
Kingma
There are things that are going to be easier to control than others. So oftentimes, I'll say, start with things like procurement because you have more control over that process. So, understand what your strategies are with regard to procurement. Have you concentrated too much of your spend and you have vulnerabilities with few suppliers? Or are you spreading your spend out across too many and you could concentrate more and get better rates and terms, for example? But with procurement, you really have only a few stakeholders and so it's going to be probably easier and probably quicker way to make an impact.
Next step would be you're on the customer side on anything associated with billing and collections. That's a little trickier now because now you're dealing with many different customers who might have different terms and conditions and it might make all the sense in the world to have the terms and conditions they have and you might not be able to change those, but you want to be able to control all the underlying processes. Probably the most difficult, but where it will yield the biggest results will be on the supply chain side, on inventory. I'm talking broadly about companies that make stuff.
If it's a services business, it's not. But in cases of if you're any kind of manufacturing or products company, you probably have the most amount of capital and cash tied up in inventory, but it probably is the most stakeholders involved as well. So not to say that you don't do that, but if you're looking to make an impact and to score some wins quickly, I would very quickly look at procurement. There's great benchmark data out there. They're great resources to be able to see if you've got prevailing commercial terms by commodity, for example, by region. I would start there.
Corson
Fascinating conversation, there's obviously an awful lot of depth there and we'll make sure the resources we've touched on in terms of the book and the resilient study are available in the show notes. So, thank you for sharing that. Before we wrap up, we just always like to get a little bit of broader perspective from your experience. So, is there a particular quote that you come back to as part of your professional life and why?
Kingma
I do. A mentor told me that Nines hire 10s and sixes hire fives. And so, I believe that I am probably the least smart person on my team because I try and surround myself with people that, listen Myles, I don't think I could get hired today. We've got so many talented folks, but I'm a firm believer that always try and replace yourself with somebody smarter than you are.
Corson
And any piece of advice that you've been given that has been most impactful during your career?
Kingma
Yeah, I think it's don't overthink it. I think we try and make business too complicated and it's my father has since passed away, but I remember he was a small-town banker and he was really confused of what I do for a living and I was trying to explain it to him. After thinking for a minute, he said, well, why do they need to pay you to tell them to collect faster, pay slower and hold less inventory and says, well, you know, you're probably right. But I think sometimes we do over complicate things and so I'd say get back to the basics, like the bit about using your assets that you've already invested in. Make sure you're getting the most out of systems and tools that you've already got versus trying to find the next shiny thing.
Corson
Simplicity is the ultimate sophistication. Great words. Finally, we all experience the pressures and the busyness that inflicts our day-to-day lives. Is there anything that you do to try and maintain balance and well-being?
Kingma
I walk every night. I live in Chicago, so I'm right across the street from the lake and try and hang workup and do long walks every night. I love to snow ski in the winter and hike in the summer. So yeah, anything outdoors is what I'd like.
Corson
Anything that reconnects with nature and that fresh air. Such an important part. Thank you for sharing that. Thanks for joining and sharing your insights. It's been fantastic conversations. Appreciate your time.
Kingma
Thanks, Myles.
Corson
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