Making the Link Between P2P and Working Capital to Create a Robust Governance Framework

SSON News and Analysis
Posted: 07/09/2012

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One of the lesser-trumpeted consequences of the credit crunch has been a renewed (and some might say long overdue) attention paid to working capital management: with liquidity the watchword organizations have been scrambling to release potentially significant sums tied up in their P2P and O2C processes, with every saving going some distance to staving off a potentially business-critical shortage of cash. But while the short-term benefits of such new-found C-level interest in such processes can be summed up by the bottom line, longer-term the ramifications could be a lot more profound – and positive – thanks to the enhanced governance frameworks resulting from companies’ increased attention to detail.

The theory goes that in good economic conditions organizations tend to succumb to a degree of what can be viewed as institutional laziness where certain aspects of doing business are concerned. An obvious example would be the development of a comparatively laissez-faire expenses policy: when times are good, bosses enjoying comfortable surpluses are more likely to allow claims for entertainments, travel etc than they might be in a more restrictive economic climate. The exertion of less scrutiny quickly becomes established practice – until worsening conditions call for a clampdown, at which point the expenses culture reverts to by-the-book strictures.

This is, of course, no more than the ironing-out of some bad habits - but such habits can develop in the external-facing areas of an organization too. An example similar to that of "expense creep" might be the development of non-standard payment terms for customers: in the good times, with revenues growing and forecasts optimistic, it might be seen as increasingly acceptable for long-standing customers to enjoy significantly freer payment terms than those specified in their contracts – only for these custom-made payment terms to tie up precious working capital in the case of a credit crunch such as the current one.

As several SSON contributors have commented in recent months, releasing this kind of capital by tightening up on payment terms is seen as one of the quicker wins organizations can aim for in a downturn; but it does cause problems for the customer at an already difficult time, and the balance – never easy - between present needs and future requirements is particularly hard to find when the future outlook remains uncertain.

At any rate, these examples – and there are plenty more – show ways in which adherence to orthodoxy and best practice tends to decrease in times of affluence and increase in times of trouble. This isn’t news, of course – anyone who remembers previous recessions will no doubt vouch that expense claims and payment terms were among the lowest-hanging fruit targeted by the cost-cutters, and it’s tempting, if not entirely rational, to view this alternating tighten-slacken approach to spending as being a natural part of, and response to, the economic cycle. But the headline metrics suggest this recession will be deeper and more prolonged than most – so why shouldn’t new, more stringent practices stick around for a while longer too?

The fact is that while there are countless reasons deviating from established practice can assist an organization – in the examples given, both more liberal entertainments policies and laxer payment terms can help make and develop close (and profitable) relationships with big-spending customers – the luxurious flexibility of the boom years may well now be taking an extended break, and tight operating practices have become the order of the day. As a result, the scrutiny which companies are now applying to possibly "fatty" processes and operations takes on another aspect; not only is it helping to free up capital here and now, but the crunch-driven reassessment of existing methods is also going to have a lasting impact in the way companies work going forwards.

Why will this happen – and how? Firstly, there has been a philosophical shift: because of the recognition that the good times are going to be a while returning, organizations are now adapting to an effectively new, post-crunch business paradigm in which margins are going to be significantly - and more or less permanently – reduced. Put simply, there isn’t the money to be thrown around as carelessly as some organizations had become used to doing – belts are being tightened for a long haul.

Because of this, once the immediate fires were put out after the crisis peaked in October last year, big businesses began to look at cost-reduction programs that were far more than just temporary stopgaps – in the worst cases that’s resulted in job losses and plant closures but, even in less traumatic circumstances, many of the transformation projects now in progress or in the pipeline are hardly reversible at the drop of a hat: the outsourcing deals and shared services implementations which have been spurred on by the pressures of the recession represent massive and pretty much one-way shifts in the way the organizations in question perform their back-office functions.

But it’s not just about operating with less, or more restricted, capital: it’s about the development and maintenance of an increased awareness and scrutiny of that capital at a cultural level. Business leaders don’t just want to know that x percent of costs is now being saved; they want and need to know exactly where every penny is, and what it’s doing – and they need to be able to present that information rapidly and correctly to shareholders and, with the great corporate scandals of earlier this decade refusing to fade from memory, the authorities. So, as well as cost-cutting, the transformation programs (whether in-house or outsourced, or both) being put into place also tend to have strengthening corporate controls and facilitating reporting among their objectives.

Institutionally – at least, so the strategists hope – the development of a much stronger control philosophy from top to bottom of an organization will not only help prevent the emergence of "bad" practices, but will focus practitioners’ minds on the kind of continuous improvement that businesses will require in a world where only the ever-leaner have the competitive edge. To return to our initial examples, it won’t become impossible to offer more generous payment terms to a supplier, or to make expense accounts bigger and subject them to less scrutiny – but it will require sign-off at a higher level, and therefore become more difficult, and thus less common. 

This kind of ideological shift isn’t just a response to the credit crunch, of course: it’s also a natural consequence of the emergence of outsourcing providers for whom process excellence is a core competency and who have themselves been at the forefront of cost-minimization improvements from the outside to ensure the viability of their own margins. The increase in automation and centralization now accelerating around the world can’t just be ascribed to the post-crunch mentality. What the crunch has done is hasten the process: it’s provided the burning platform for organizations to take steps which before might have been a "nice-to-have" rather than a "must-have". In the new economic order only the foolhardy will turn up their noses at savings of a couple of percentage points whereas in the "good" old days many organizations were too busy making money to have to bother with saving it.

Within the P2P arena in particular, the aforementioned increased automation and centralization clearly has big consequences for governance. If the quest for lean efficiency is going to raise the profile of the process and the importance of procedural standardization – and what cost-cutting transformation project doesn’t? – it’s all the more important to have specific standard controls in place and embedded within the technology right from the start.

 There’s no point losing time and money going back to fiddle with software just because insufficient attention was paid to governance requirements during initial development; similarly an outsourcing deal (which anyway poses its own specific governance issues) shouldn’t be allowed to stagnate or fail because the governance questions weren’t settled early on in the process. Those with whom the buck ultimately stops need to be as confident as possible, right from the off, that all the relevant governance boxes are covered before signing off on any program – as well, of course, as being certain they’re signing off on the best possible use of the capital being allocated; all this draws a rather neat link – and one that seems to have disappeared for many organizations during the boom years – between the needs of the bottom of the organization and those of the top.

The governance benefits can be extremely broad, too. Transforming, reforming or overhauling the P2P function, for many organizations, can mean making changes across different geographies, languages and systems – even an apparently straightforward system audit can be a massive undertaking. But if this involves trimming out a lot of deadwood, standardizing and streamlining processes, then it should also simplify and standardize governance structures (not least because those with governance oversight tend to draw significantly higher salaries than those at the bottom of the pile). The process which begins initially as a way to free up working capital can result in a complete renovation of what might have become (in some organizations more than others) rather flabby, overly complex and occasionally nonsensical governance set-ups. The closer one gets to a global streamlined perfection, the smoother and simpler the controls must be. Thus working capital can prove an excellent driver for true globalization almost, it might appear, by coincidence.

The key is, transformation programs affecting P2P in particular don’t just provide an opportunity for organizations to change and improve their governance structures – they absolutely demand such improvements and can’t be effected without them. Because the kind of changes we’re discussing go so deep into the heart of each function, and have such broad scope, they do literally transform their organizations to a greater or lesser extent, by force: if nothing else, new systems implementations led to improved, streamlined workforce structures.

Survival in the new economic order is not about organizations making cosmetic changes to their working capital practices: it’s about wholesale improvements implemented across the board which of necessity require a reassessment of existing practices which might at first seem tangential to the main effort. Companies can and should look at their working capital-focused projects as an opportunity to improve controls and remold their governance structures – but regardless of how it’s viewed, the necessity remains.

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SSON News and Analysis
Posted: 07/09/2012

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