In Part I, we asked if your supply chain was OCF, and by OCF we meant Operating Cash Flow and not Obsessive Compulsive Finance, although you have to be the latter in order to achieve the former. We explained that, at least from a working capital management viewpoint, it is a better measure of financial health than other financial measures. We finished with a question – How Do You Impact It?
First, let’s look at one detailed formula:
- revenue as reported
- – (increase in) operating trade receivables
- – investment income
- – other income that is non cash and/or non sales related
- – costs of sales
- – all other expenses
- + (increase in) operating trade payables
- + non cash expense items
- + financing expenses
Based on this formula, supply chain can impact:
- 1. Revenue as Reported
by creating new value-added services, creating enhanced versions of a product that can be sold at a premium, etc.
- 2. Receivables
by creating agreements that allow for faster collection, by factoring, etc.
- 5. Cost of Sales
by reducing product and service costs, reducing inventory costs, reducing transport costs, etc.
- 6. All Other Expenses
by reducing indirect costs, SG&A overheads, etc.
- 7. Payables
by taking advantage of early payment discounting, by reducing amounts owed through reciprocal trade agreement, etc.
- 9. Finance Expenses
by taking advantage of market knowledge to obtain best rates, by selecting appropriate currencies (to hedge against), etc.
And the impact can be measured as follows:
Supply Chain Contribution to OCF / OCF
where Supply Chain Contribution is, technically (where all projections are without Supply Chain Contribution):
- Actual Revenue – Projected Revenue +
- Projected Receivables – Actual Receivables +
- Projected Cost of Sales – Actual Cost of Sales +
- Projected Other Expenses – Actual Other Expenses +
- Actual Payables – Projected Payables** +
- Projected Finance Expenses – Actual Finance Expenses
** while this is technically correct from a Finance view who want the organization to hold onto cash longer, from a Supply Chain view it’s usually stupid, as SI has argued for years, because your cost of capital is often lower than that of a supplier and the goal is to lower overall supply chain costs. In other words, the improvement in payables is probably coming at a cost of a greater improvement in cost of sales.
In other words, if Supply Chain Contribution to OCF was 400K and the OCF was 2M, then supply chain contributed 20% and that’s proof in the pudding that supply chain has value.