Yann Guyomar and Louis Rousseau (Forvis Mazars): Management of Free Cash Flow and Net Debt - What are the practical solutions to optimize financial performance?
Yann Guyomar and Louis Rousseau, Forvis Mazars – Debt & Treasury Advisory, In an unprecedented economic and geopolitical context, finance departments need to remain agile to optimize their financial performance and net debt landing at the end of the financial year. What levers are available to help them do this? What processes and tools can they implement to activate these levers effectively?
The impact of the macroeconomic environment on liquidity management
The management of Free Cash Flow (FCF) and Net Debt is a crucial issue for companies faced with inflation, rising interest rates and difficulties in accessing new financing. Similarly, issues in supply chain, tighter financing conditions and rising interest rates have disrupted the stability of these indicators, making it more complex for treasurers to manage and make decisions. In an uncertain context, many companies found it difficult to secure their supplies. Some have opted to increase their inventory of raw materials, for example, before experiencing a sharp upturn in their business. This sudden change in operations had a brutal impact on their Working Capital Requirement (WCR), resulting in the disruption of the normative reading of cash landings and of the construction of cash flow forecasts, sometimes going so far as to blur the reading of their FCF. Net debt to EBITDA and FCF ratios are key indicators for communicating with shareholders and lenders about the company's financial health. Companies need to keep a close eye on these indicators to reassure their stakeholders about their financial performance. Certain tools therefore enable the treasurer to act directly on WCR, a key component of liquidity.
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Louis Rousseau, Debt & Treasury Advisory
Financial management: What levers are available?
In practice, there are two main types of levers that can be used to optimize WCR:
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Structural levers: They aim at optimizing WCR by improving processes and organization. These may involve improving cash culture, optimizing stocks, O2C or P2P. These levers take longer to put in place, but they enable in-depth work to be done to control the impact of WCR over the long term, and so strengthen the resilience of the organization.
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Cyclical levers: They enable to react quickly to one-off variations in WCR. They consist of targeted, one-off actions, such as the sale of receivables with off-balance sheet treatment, cash marathons, negotiation of advance payments, participation in reverse factoring programs offered by certain customers, etc. While the use of short-term levers can be effective in the short term, they can also prove addictive.
Companies therefore need to strike a balance between these two types of levers and anticipate their implementation. It is advisable to favor structural levers, which are more virtuous in the long term for the organization, and to reserve the use of cyclical levers for adjustments during periods of turbulence affecting liquidity, particularly at accounting closing date. The finance department shall also be able to manage both FCF and the resulting net debt. This requires a medium to long-term view of the cash flow forecast obtained through an accounting approach EBITDA to Cash. It shall also work in parallel with the short-term vision, using so-called direct forecasts based on an analysis of cash receipts and disbursements over a short timeframe, generally monthly. Finally, it is worth remembering that the best forecast is one that is regularly confronted with actual realization. Regular reconciliation of forecasts and actuals helps to instill a learning mechanism throughout the organization, and so establishes reflexes over time.
AI and financial management tools are becoming essential
Finally, in the current context, management tools play a crucial role in supporting finance departments, both in terms of day-to-day cash management and short-term cash management. The pace at which treasurers must analyze and make decisions has increased considerably. They must therefore be able to rely on tools and data that enable them to assess the company's situation in real time, so that they can take corrective actions in a timely manner. Financial management tools can help the treasurer to project the company's liquidity position over the medium to long term and take any corrective actions required. Artificial intelligence (AI), in the case of cash management forecasting, can be a real support. Using Big Data and qualified forecast gaps, it enables the treasurer to model and anticipate the company's behavior and can also help to identify suspicious payments and prevent fraud. Managing liquidity is therefore a complex issue that requires a collaborative approach, covering transactional, organizational, accounting and financial communication aspects. When structuring a working capital financing solution, it is crucial to involve the auditors as early as possible, as well as the rating agencies, if applicable, so that any adjustments to their analysis can be discussed constructively with them and communicated to lenders and investors.
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