By studying the middle market’s approach to and perceptions of working capital management, and by comparing those data to practices among publicly traded entities, the National Center for the Middle Market and its research partners have identified and defined a major opportunity for companies to optimize working capital management and free up what can potentially amount to hundreds of millions of dollars in additional cash on hand. NCMM Executive Director Tom Stewart sits down with Jason Cagle, Head of Sales for Treasury & Payment of SunTrust, to discuss the findings.


Middle market companies are sitting on millions and millions of dollars' worth of free capital, capital that they could put to work to help their businesses grow. We'll tell you about it and how to find it.

Welcome to The Market That Moves America, a podcast from the National Center for the Middle Market, which will educate you about the challenges facing mid-sized companies, and help you take advantage of new opportunities.

Welcome to The Market That Moves America. Today's podcast is about cash. In particular, it's about the cash that middle market companies tie up unnecessarily.

When they do that, they're less efficient, less profitable, and less able to take advantage of opportunities when they arrive. I'm Tom Stewart. I'm the executive director of the National Center for the Middle Market at the Ohio State University, Fisher College of Business.

We're the nation's leading research outfit studying mid-sized companies, which account for 1/3 of private employment in GDP and a lion's share of economic growth. The middle market is the market that moves America, which is why that's the name of this podcast.

The National Center for the Middle Market is a partnership between Ohio State and SunTrust Bank, Grant Thornton LLP, and Cisco Systems. With me today via Skype is a special guest, Jason Cagle from SunTrust, who is the head of sales with treasury and payment solutions at SunTrust. Welcome, Jason.

Thank you. Thank you for having me, Tom.

We're going to be talking today about an opportunity that most middle market companies don't even know is there. And that's the opportunity to manage working capital [INAUDIBLE]. Working capital ought to be top of mind, not just for finance types and CEOs but for anyone working in a mid-sized company. Before we get into it, what is working catcall?

If you think about it, some of a company's capital is locked up in bricks and mortar, factories, warehouses, equipment, and other liquid, long-lived assets. Some capital is very liquid, indeed. It's cash in the bank, shares of stock that you can sell, security. And some capital is used to fund day-to-day activities. For example, there are bills that you've set out that haven't yet been paid-- accounts payable.

That's your money. You earned it, but it's tied up in the business. There's money you owe, that you've paid sooner than you needed to, like paying the phone bill before you have to. There's nothing wrong with that, but you might have been able to use that quote for other purposes during the 30 days or 90 days that you have it.

And there's money tied up in inventory-- parts, work in process, unsold inventory in your warehouse, or at the distributor's, or on the shelves of your shop. So all that money that's tied up in your business is called working capital. And what's the story?

We took a survey of 400 financial decision makers among middle market companies. We said, how good are you at managing working capital? How satisfied are you? And 75% said they are highly satisfied or very satisfied.

Good news? Not so much, because in fact, they're wrong. If you take a look at the data available for public companies that are mid-sized, you'll find that companies in the 25th percentile of the middle market are holding onto 509 days' worth of inventory.

But companies in the 75% percentile, the better ones, only have 102. So they have less than 1/4 as much inventory-- money tied up in inventory-- as companies that are in the 25th percentile. You get similar numbers with accounts receivable. Remember, that's bills sent out that haven't been paid yet.

The top guys-- the top 75th percentile have 144 [INAUDIBLE] for average accounts receivable. Down below, with 25th percentile, 291 [INAUDIBLE], 2 and 1/2 tons that they're sitting on-- money that's building out there, not being paid. So why do we care? What should we do about it?

And how do we explain this difference between satisfaction on the one hand and what really is widely varying performance and a clear indication that there's plenty of opportunity? Jason Cagle worked with us on this study. And Jason, when you look at companies underperforming on working capital or are being so different on working capital management, how big an opportunity are we looking at?

I mean, if you think about running a business-- you know, I talk about 509 days of inventory, versus 102, or 290 days of receivables versus 134. So what? What's that mean?

Thanks for asking, Tom, and I think I love your comment around 75% satisfaction. Because I think when we look at the numbers, you would have to scratch your head and say, why do we have such a massive opportunity if cash is king? And most people see it that way.

How could it be possible that 75% are satisfied when they look at some of the results of this survey and realize that there appears to be a bias towards the status quo or a complacency? And if folks really looked at the numbers, they would get pretty energized around unlocking that cash. So let me give you an example, just a simple example, as we think about those quartiles that you alluded to.

Let's assume we have a materials company, just a manufacturing general industrial company with $100 million in annual revenue. So let's say, for purpose of argument, this company is mediocre. They're at the mean or the median of our survey results. What does the median look like?

Well, for this manufacturing company, they have accounts receivable that on average gets collected-- let's call it 171 days. On the payable side, they're actually paying in, about, 173 days. So if you think about it, it's almost the same number. No surprise-- money's coming in and going out at, about, the same time.

They also have $80 million tied up in inventory. Now, what happens if we go to the 25th percentile? Same company-- $100 million in annual revenue, manufacturing company. But now, receivables extends to a shocking 225 days.

So they're getting paid much slower, but yet, they're paying faster. So they're actually making their payments in 121 days. It's not rocket science to know their cash is going out much faster than it's coming in. And they have even more tied up in inventory, with a $121 million locked in inventory.

So if I think about the average, as we started out, we said, on average, our average company had 80 million tied up in inventory. But the 25th percentile, or the lower quartile, has $121 million in cash, tied up in their inventory. Simple math-- you can see, that's $41 million you could be using elsewhere.

So what if we go to the other extreme? What if we look at the 75th quartile or 75th percentile? Now, we see that they get paid a lot faster. So on average, they're getting paid in 90 to 120 days on receivables.

Their extending payable's much better, so they're extending payables to, on average, 240 days. And no surprise-- they have much less cash trapped in inventory. And if you look at the delta, then, or the difference between all three, the best performer only has, about, $22 million tied up in inventory, and the worst performer has, about, $80 million.

So there's a fascinating $60 million difference in potential free cash flow that could be used elsewhere in the business. I don't know about you, Tom, but that doesn't seem like chump change, especially when you're thinking about the example of a 100 million companies.

Yeah, that's what I'm thinking about. I've got 100 million in overall revenue. And it's like I've got $16 million sloshing around in my gas tank that is-- I don't need that much. I mean, I could get much more efficient mileage out of that.

And in a sense, I've got $60 million tied up in cash, that I could use-- to do what? To, like, pay myself more? Or I could use it to expand the business. I mean, I could use it for all kinds of things, right?

Absolutely. And look, I mean, I think, as you think about these numbers, I bet some of our listeners are thinking, well, guys, I get it. You know, I remember that in a textbook class, back in the day, in accounting.

And that's not realistic. Most companies, for very good reasons, cannot accelerate receivables or payables that much. And you know what? They're probably right. So let's give them some numbers that may be a little more tangible.

What's one day improvement worth? So I think if we go back to our company, 100 million generic manufacturing company, what's really interesting here is that even one day of improvement can yield a dramatic free cash flow savings.

And so again, using our simple example, one-day improvement could yield $800,000 per annum, and that's just one piece of the spectrum. Said differently, if you improve the receivables one day, think about what happens if you're able to improve receivables by one day and payables by one day, and if you're able to unlock some of the cash traps in inventory.

That can quickly add up to millions in savings on a per annum basis, and I think that is a more realistic assumption for our listeners. Because I would be willing to say that most of the companies we work with in the middle market space have an opportunity to improve the working capital cycle by some days.

You know, what I think, I'm a pretty tangible guy, and I understand inventories more than I understand payables and receivables. Although I will say that now that I can do electronic payment on my phone bills and utility bills, I see when it's due, and I program it so that I pay the check two days-- or they get paid two days before it's due, just to give me a little cushion.

So I maximize the flow-- not that it's worth that much in a low-interest environment, but I do it. But one of the things I think about when I think about inventory is-- let's take our example. We had your company that has gone from 80 days to 26 days in inventory.

That's a lot of parts, right? That's a lot of inventory. And when you think about the-- not only are you freeing up that cash, but you may also be freeing up that physical space. I mean, I may not need a warehouse.

I may be able to take a warehouse and close it down or turn it into a shop floor space or rent it out to somebody. It's not only free money, it can be free real estate. I know you're in the banking business, but if I do this better, I don't need to borrow as much money from you, right?

No, that's absolutely true. It is truly a competitive advantage. Proactive working capital management can be a competitive advantage.

And I think-- look, it can make your people more efficient. So as you move to more efficient means of working capital management-- you know, digitisation is the buzz word. As we move toward more electronic payments, it means you free up this time of your work [INAUDIBLE] to be plowed into better things like thinking about your business strategies or hoping to grow your client base. So now, all of a sudden, you've unleashed the power of your team to do things, rather than manual paper processes around working capital.

And the money I've freed up from that paper work or managing those part is also money I can spend on hiring other sales rep more money on advertising or marketing, or more money on new product development, or all kinds of things. So I get more efficient, and I can grow more. I am trying to put that money to great stuff rather than into processing.

That's absolutely true. And the one other point on that I'd like to make is that we are seeing more and more today-- you can't escape picking up the newspaper and reading about an activist shareholder if you're a public company, or private equity money on the sidelines, waiting to invest in business. The great irony is, this is exactly what those folks are doing.

They're looking at businesses where they think they can skim through days receivables, days payable, or inventory, and therefore increase free cash flow, which goes to the enterprise value of the business itself. And so what do I mean by that? Well, think about it this way.

The calculation of a firm's work or value-- it has to include working capital, because working capital impacts cash flow. And cash flow, as we all know as an investor, impacts your return on investment. And so improving your free cash flow goes straight to the root core value of your investment, which in the case of middle market companies is the value of the firm.

So this topic, I think, is going to increasingly be on the radar for boards of directors and owners of family businesses, because if they can free up free cash flow, they can increase the value of their company, or they can unlock value to grow the company inorganically through mergers and acquisitions.

So one of the questions that-- I mean, they're, sort of, a mystery to me, that starts out with that number I quoted at the beginning, where 75% of people say they're very or highly satisfied, and yet the benchmarking data that you can find show that they shouldn't be. Why are you satisfied? I mean, do they just not know, or are they satisfying at a low level for other reasons?

How do you, sort of, get your mind around this opportunity? You must have seen it with clients you work with or others. How do you, sort of, turn the lightbulb on from being satisfied with mediocrity to saying, whoa, there's something here?

You know, it's really interesting in that I think most of the companies we work with understand these concepts. So you know, when they look at the study that we've done together here, a lot of this will not be a surprise. And I think, intuitively, they get that there could be some efficiency.

But look, as we all know, everyone's trying to do more with less. And so most of the companies we work with have a very lean finance team, and they are on what I call the hamster wheel of life, trying to just get their daily job done. And they don't frankly have the time to step back-- or they think they don't have the time to step back and strategic around some of these concepts.

You know, one of the things I'd point out is, on the receivable side, for example, people have had the luxury of not being strategic. You alluded to it. Why bother getting paid faster? Because what am I going to do with it?

I don't earn anything in interest in the flow rate environment that we've been in for such a long time. So the great irony here is, I think our study could not come at a better time, because now is exactly the time you ought to be thinking about receivables in that example, so that you position your company or the rising rate environment that you're about to embark on as with this week's Fed meeting.

So I have another theory that I want to offer. I wonder whether this connects to you. I also think that a lot of companies, particularly small or mid-sized companies, are satisfied if they don't run out of cash. Remember, we started at the beginning with your hypothetical materials company, and they were paying their bills at, about, the same time, and they were getting paid at 171 days-- cash comes in, the cash comes out. I got it [INAUDIBLE] the payroll.

Life is good if I haven't got a cash crunch. And so they're satisfied if they don't feel pain. They're satisfied if we can pay our bills and buy the stuff we need. I'm OK.

But they're not recognizing the opportunities. They are saying, I haven't got pain, so I'm OK. But they're not recognizing, wow, if I do this better, think-- what's the Dr. Seuss book? Think of the things that they could do.

Absolutely true. And look, you know, sometimes dire situations make you better. And I think we saw that in the financial crisis, that a lot of folks got very laser-focused on this topic because they had to, right? I mean, it was out of desperation.

And when times are good, people somewhat take their foot off the gas and off the ball. You know, one of the things that we saw is that the companies who are the best at being strategic and proactive had created what we call a cash culture. So they found ways to energize and get their teammates excited.

You could have the most junior person who's in payroll cutting checks, but that person felt like they owned the business. And they did that by creating a cash culture where they had very specific KPIs that they tracked, kind of, like a leader board. Every day, everyone came in and knew exactly where they stood as a team, and they were all rowing in the same direction, trying to drive that working capital efficiency. And I think that's really a differentiator between the companies that excel in that higher quartile or higher percentile, versus the ones who are in the middle or low band.

And you know, Jason, you just set up the next episode of The Market That Moves America, because we're going to be talking with Rob [INAUDIBLE] from Grant Thornton, who helped with this study on working capital management. And Rob's going to talk a little bit about what you do with a diagnosed problems-- dig in and set up that culture of cash.

And I know we've, sort of, come to the end of our time here. And I want to summarize-- and then, Jason, make sure I haven't left anything out of here when we've come to the end. But one of the things-- I think about a few quick lessons here.

Number one-- that prioritizing working capital management leads to better overall company performance. I mean, one of the things we've found is that companies that really do this right are growing faster, and are more profitable, and are performing better. Second-- that dissatisfaction that a lot of middle to low market companies feel is undeserved.

I mean, there are many, many opportunities that they are not taking advantage of-- significant opportunities to improve. And indeed, those opportunities can be as much as 4X, between the A and B players and the C and D players. Also, as we were seeing, even marginal improvement-- a day here, five days here-- can free up a lot of cash that you can use for other things.

And to get there, you want to really dig in, and not just leave it to the CFO to worry about, but infuse the whole culture with it. Does that, sort of, wrap up the story as you see it, Jason?

I think so. And what I would close and leave our listeners with is, there perhaps has never been a better time to think about these concepts. Again, as we think about our working capital management-- how much cash is your business tying up-- today, you've never probably in history had better tools at your fingertips to help you navigate that for real time reporting and digital payments.

And we're in an interesting environment where, because we are in a positive economic environment, you have the luxury of thinking about these things right now, before we get into another economic downturn. And now is precisely the time to be leveraging technology, leveraging the environment we're in to be strategic, be thoughtful, and create that cash culture that you're going to hear about in our next podcast.

So Jason, thank you so much. That's Jason Cagle from SunTrust, and we're going to come back with the next episode of The Market That Moves America to talk more about how to turn your company into a cash machine. Thank you for listening to The Market That Moves America, coming from the National Center for the Middle Market at Fisher College for Business, Ohio State University.

Never miss a new episode. Subscribe to the podcast on iTunes, Stitcher, Google Play, or wherever fine podcasts can be found. And visit us at MiddleMarketCenter.org. Thanks very much.