The evolution of the trade cycle for fast moving consumer goods

Working capital has been a key source of capital release for FMCG corporates over the past five years, however, with rising indebtedness and capital requirements, are there further efficiencies that can be extracted from already stretched trade cycles?

Working Capital is high on the agenda for corporate CFOs

Wide ranging trade uncertainties from escalating geo-political tensions, Brexit and evolving regulation are challenging corporates to deliver ambitious growth plans whilst meeting financial targets. Many CFOs are struggling to balance growing digital investment needs, investor demand for higher shareholder returns and rating agency focus on financial prudence.

Whilst the impact on cash conversion has historically been softened through managing capital expenditure (capex), many corporates now find themselves under-invested for growth as they transition from being digital-ready to digitally-enabled. This is where working capital efficiencies continue to provide CFOs with a cheap source of funding.

Based on our analysis of close to 900 corporates (circa.70% of global market capitalisation) over the past five years, we have found that only eight out of a sample of 22 sectors have shown improving cash cycles and, for the majority, improvement has been driven by better management of asset days. The Fast-Moving Consumer Goods (FMCG) sector also achieved substantial improvements but almost exclusively on the back of leveraging payables. No other sector was able to stretch payable days to this extent!

The question, however, is whether further efficiencies can be extracted?

Protecting payables and improving asset days will be key for FMCG corporates

Days Sales Outstanding have remained broadly stable over the last five years for FMCG corporates. Many maintain significant exposure to emerging markets where payment terms are considerably longer.

Days Inventories Outstanding have marginally deteriorated driven by structural limitations around inventory management, especially for spirits or tobacco manufacturers.

In contrast, Days Payables Outstanding improvement has been central to working capital optimisation as FMCGs exert buying power over suppliers. Aside from extending payment terms, increasing use of supply chain finance has been cash flow accretive. However, over reliance on stretching payables may prove unsustainable as slowing market activity can push suppliers into a liquidity crunch placing pressure on the supply chain. This aspect will likely be exacerbated by tightening regulation, heightening government focus and an evolution of the social agenda for most FMCG corporates.

Upward pressure on indebtedness underpins the need to continue capital release

The FMCG sector has seen steady margin expansion since 2013 across all sub-sectors with latest results indicating the peer universe is at the top end of its five-year EBITDA margin range. This margin progression has enabled stable cash conversion helped along by working capital efficiencies.

M&A has been inconsistent due to the lumpy nature of acquisitions. Together with disposals of noncore assets, this gives increasing focus to portfolio rationalisation (especially in household and personal care) to support the credit profile. One consistent deterrent for acquisition has been high asset prices. Most corporates have been comfortable with a ‘bolt-on’ based acquisition strategy lately, but the platform is set for larger transactions over the medium term.

While some corporates have slashed investment to support cash generation, sluggish organic growth from developed markets, rising costs and activist investor pressure for higher shareholder returns has forced management to reassess capital allocation priorities.

Either way, indebtedness has steadily risen for the FMCG sector. Working capital efficiencies can provide additional headroom to meet these discretionary obligations whilst ensuring there is a buffer to de-lever the balance sheet in times of stress.

Please see our full analysis report here.

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