Why "cash culture" is a critical lever in today's PE climate

Nick Boaro and Sven Braun of the EY Transaction Advisory Services and Working Capital Group explain why freeing cash from working capital can allow PE to prolong sustainability, realize value sooner and invest earlier.

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Four reasons why a PE-backed company would want to optimize cash flow now include:

1. Up to 7% of sales can be unlocked and released quickly.
2. Unlocking cash is the cheapest source of liquidity.
3. Companies with optionality are in a stronger position to reinvest for growth.
4. A successful outcome in one portfolio company can inspire other portfolio companies to take the same journey.

Working capital is the cash a company has tied up in assets less the cash it holds as a liability; a financial metric that represents the amount of day-to-day operating liquidity available to a business. Freeing cash from working capital is the cheapest source of additional liquidity often unlocked to pay down debt, fund day-to-day operation or fund strategic initiatives.

Today, private equity funds and their portfolio companies are able to unlock on average 5%-7% of revenue in cash flow improvement within 3-6 months of completing 8-12 week operational improvement programs. A company that optimizes working capital increases liquidity, improves predictability of cash flow and increases visibility in all areas of cash.

Because of COVID-19, many PE funds are laser focused on forecasting and releasing cash to prolong sustainability, realize value sooner and invest earlier. PE funds are asking for liquidity forecasts from across the portfolio to measure exposure, identify opportunities and quickly accelerate cash flow for as many companies as possible. Where corporations have complex hierarchical structures that force them to move slower with more measured outcomes, PE is able to act more quickly.

Having a "cash culture" is important for any company, especially now. After all, cash is the cheapest source of liquidity a business can generate, and it provides critical funding in either a downturn or growth period. Healthy cash flow is a positive indicator of a company's preparation for an economic downturn; however, it isn't too late for companies to improve cash flow, so they have greater optionality when opportunities arise.