In today’s business environment, ensuring healthy cash flow is more critical than ever. Working capital—defined as the capital used in a business’s day-to-day operations—is often the lifeblood that keeps an organization running smoothly.
Despite being a primary concern for finance teams, it’s an area that can be misunderstood or overlooked. At Proxima, we aim to simplify working capital management, helping businesses uncover inefficiencies, improve capital position, and streamline processes to deliver sustainable results for business growth.
What is Working Capital?
At its core, working capital is the difference between current assets (cash, accounts receivable, and inventory) and current liabilities (accounts payable, taxes, wages, and interest owed). The capital formula for calculating this difference is essential to determine whether a company has enough current assets to cover its short-term liabilities. While profitable businesses can generate revenue, even they can struggle if they lack enough short-term assets to cover essential payments like short-term bills, salaries, or supplier costs.
This shortfall can lead to disruptions in operations, especially during periods of high volatility.
Many businesses experience working capital pressure tied to specific cycles or seasonal demand. For example, supply chain disruptions may lead to increased stockholding of raw materials or safety buffers, further straining cash reserves. Investors also look at working capital as a key indicator of organizational health, and efficient management of it is often tied to broader corporate objectives like cost reduction, investment in automation, or preparations for an IPO—all vital components of business growth.
Why is working capital important?
Working capital management directly impacts a company’s ability to maintain liquidity and navigate challenging financial periods. Poor working capital management can lead to a range of problems, including:
- Cash shortages: Even profitable companies can run into trouble if they don’t have enough liquid assets on hand to cover day-to-day expenses.
- Increased borrowing costs: Companies without sufficient working capital may be forced to borrow short-term debt, often at high interest rates, which can further strain financial resources.
- Supplier relationship strain: Delays in payment or renegotiated terms can damage relationships with key suppliers, leading to further supply chain disruptions.
At Proxima, we understand that working capital optimization is critical to long-term success. Our approach focuses on reducing unnecessary costs, improving cash flow, and aligning internal processes with external financial obligations. We help companies strengthen their capital position to ensure they have the flexibility to invest in growth and cover short-term liabilities effectively.
How Procurement can optimize working capital
Procurement teams play a pivotal role in managing and optimizing working capital. By engaging suppliers, renegotiating payment terms, and utilizing technology to streamline processes, procurement can help improve cash flow and reduce financial risks. Below are some key areas where procurement can make a substantial impact:
- Supplier Payment Terms: Extending payment terms with suppliers can significantly improve a company’s capital position. Industry leaders often standardize these terms across their suppliers, ensuring consistency. However, managing these terms can be difficult—especially with smaller suppliers who may negotiate price adjustments in exchange for extended terms. It’s essential to segment suppliers logically to apply the most appropriate payment terms.
- Dynamic Discounting: This practice allows buyers to offer early payments to suppliers in exchange for a discount. Dynamic discounting not only helps improve cash flow for suppliers but also offers buyers savings on their procurement costs. This approach is especially effective when aligned with broader procurement cost-reduction strategies.
- Supply Chain Finance (SCF): SCF tools allow buyers to extend their payment terms while still enabling suppliers to receive early payments through third-party financing. This reduces strain on suppliers while allowing buyers to optimize their cash flow, addressing both current liabilities and short-term debt.
- Digital Payment Transformation: Moving away from traditional payment methods like checks and transitioning to more modern systems, such as Automated Clearing House (ACH) payments, can simplify processes, reduce manual errors, and improve efficiency. This initiative aligns with broader digital transformation efforts within procurement functions.
- Process Optimization: Aligning contract terms with system and payment runs ensures that capital figures are managed efficiently and that working capital benefits are realized in practice, not just on paper. Procurement teams can improve payment processes through simplification and technology upgrades, creating a more streamlined and transparent cash management system.
At Proxima, we also offer tools and reporting templates designed to help organizations track and optimize their working capital performance, whether through targeted programs or in day-to-day procurement activities.
Proxima’s approach: a working capital program
A typical working capital program begins with a diagnostic phase, assessing the current state of the organization’s procurement processes and supplier relationships. This phase includes:
- Data Audits: Reviewing supplier payment data and internal processes to identify inefficiencies and opportunities for improvement.
- Peer Comparisons: Comparing the organization’s performance against industry benchmarks to highlight areas of strength and weakness. This includes assessing the current ratio, a key indicator of positive working capital or negative working capital based on the company’s current assets and current liabilities.
Once the diagnostic phase is complete, we move into the delivery program, focusing on areas such as:
- Supplier Segmentation: Grouping suppliers by size, spend profile, or other criteria to ensure payment terms and processes are optimized.
- Renegotiation: Adjusting terms where necessary to improve cash flow without damaging supplier relationships. This directly impacts current liabilities and contributes to a stronger capital position.
- Technology Implementation: Deploying tools like p-cards (procurement cards), dynamic discounting, and SCF solutions to enhance working capital management. Additionally, tools that automate capital calculation and track key metrics, such as the capital ratio and current ratio, can support more efficient management of current liabilities and short-term debt.
Real-World Impact: A Case Study
A retail client approached Proxima with the need to generate substantial cash flow improvements. While the client had several cost reduction programs in place, they lacked a formalized cash optimization strategy. Proxima implemented a working capital program involving over 200 suppliers, which led to significant improvements in cash flow.
Key results included:
- A $97M cash flow benefit was generated through improved supplier payment terms.
- Over half of the client’s key suppliers moved to NET 120 payment terms.
- The transition of 170 vendors to more favorable payment terms resulted in long-term cash flow improvements and better management of current liabilities and short-term liabilities.
Unlocking more cash flow potential
Working capital is more than just a balance sheet calculation—it’s a critical measure of an organization’s financial health and operational efficiency. At Proxima, we believe that optimizing working capital should be a top priority for businesses looking to improve their liquidity, reduce costs, and build stronger supplier relationships. By managing types of asset classes such as marketable securities, long-term debt, and raw materials, companies can better position themselves financially for business growth.
By leveraging procurement’s role in optimizing cash flow and using the latest tools and technologies, organizations can unlock the full potential of their capital position, ensuring long-term sustainability and growth. Whether through targeted working capital programs or everyday procurement activities, the opportunities for improvement are significant. For more insights or a detailed guide on how Proxima can help your organization optimize its working capital, get in touch today.
