I was pleased to see an article in IndustryWeek titled “Cash and the supply chain”. The subtitle, “Money management is the life blood of the supply chain ”, is even more evocative, though I would have reversed the order to “The supply chain is the life blood of money management”. True, the authors focused quite a lot of the space on the process of managing collections as a way of reducing the Accounts Receivables in order to reduce the Cash-to-Cash cycle. Undoubtedly this is an important topic and poor collections can ruin great improvements made in the speed, manner, and cost of satisfying orders, which are the heartbeat of a supply chain. I would like to focus on what we can do as supply chain management practitioners to understand how the decisions we make affect the financial performance of a company.
For a long time there has been a focus on the “perfect” order in the supply chain. In the current economic climate the instinct is to capture all demand at any cost. Amongst other things this article highlights the need to focus on a “profitable” order. This can only be done by having all the data at hand and being able to compare and contrast different alternatives methods of satisfying the demand in a fast an effective manner. In today’s multi-tier supply chains, this means having operational data – routings, bills of material, inventories, lead times, … – and costs – purchase price, transportations costs, inventory holding costs, … – available in a single system so that the full consequences of decisions made somewhere in the supply chain can be evaluated throughout the supply chain in a fast and effective manner. The consequences need to be measured in the form of both operational and financial key performance indicators (KPI’s). Operational KPI’s such as inventory turns, capacity utilization, customer service. Financial KPI’s such as revenue, gross margin, cash-to-cash cycle. Of these gross margin is the most reliable measure of profit, whereas cash-to-cash cycle is the most reliable measure of cash flow. There are many other financial factors, which are out of the control of supply chain practitioners, that determine whether these two KPI’s indeed lead to profit and effective cash management.
Cash-to-Cash (C2C) is a key performance indicator that is usually ignored in supply chain management applications largely because two of the variables used to calculate C2C, days of sales outstanding (DSO) and days of payables outstanding (DPO), are typically the responsibility of Finance and out of the control of the supply chain. The focus in the supply chain is usually on inventory, the 3rd variable in the C2C calculation. This is a pity because the payment history or payment terms with certain customers can have a great effect on the C2C cycle. In my experience the customers that provide the most revenue often do so at the lowest margins and with the longest payment periods. By importing the payments terms or payment history for each customer and supplier, we could evaluate the effect on C2C of satisfying one demand stream/order over another. This allows us to project DSO and DPO (admittedly assuming that payment history or payment terms will not change) based upon to whom we sell, and from whom we buy.. Of course we also need to evaluate the effect of decisions on gross margin and other financial KPI’s so that we are able to balance C2C with gross margin, and, for that matter, with revenue
Having the ability to compare and contrast revenue, gross margin, and C2C (along with operational KPI’s) would allow supply chain practitioners to reach the compromises necessary in day-to-day operations to meet corporate goals in a rational and effective manner. As importantly, it doing so would also provide a mechanism for communicating the compromises to senior management in terms used by senior management.
Trevor Miles is Director, Product Marketing for Kinaxis, provider of the on-demand RapidResponseservice that empowers multi-enterprise manufacturers with collaborative and integrated demand-supply planning, monitoring, and response capabilities.