Cash on the chip: working capital in technology
What drives variations
in working capital performance?
Differences in manufacturing, distribution, sourcing or the nature of the customer base can have a profound impact.
Much of these working capital performance variations are due to the specific nature of each segment as well as to the chosen strategy of each company. Each segment — and within it, each company — is part of a complex value chain.
Factors that influence working capital performance by segment include:
- Differing exposure to direct sales and distribution channels.
Technology products and services are primary sold either directly through a sales force or indirectly through channels such as distributors, value-added resellers, OEMs, providers of electronics manufacturing services and original design manufacturers, independent software vendors and systems integrators.
- Varying proportions of international sales.
In 2010, 60% of the total aggregate sales made by the US technology companies included in the survey were realized outside the US. Asia (including Japan) now accounts for more than 30% of overall sales, just ahead of Europe. The proportion of international sales varies widely across the industry's segments, ranging from half of total sales for distribution and software to 85% for semiconductor components — with diversified technology companies together realizing two-thirds of their sales outside the US.
- Differing types of inventory.
For a technology company, inventory consists of raw materials, work in progress, manufactured finished goods, distributor inventory and deferred cost of sales, and service-related spares. Distributor inventory represents a substantial proportion of the total, as vendor management inventory (VMI) arrangements are becoming more common across the industry.
- Choice of production strategies.
The industry has been moving away from a traditional forecast-driven push to a demand-driven pull system, with numerous variations on this theme. Make-to-order is probably the most effective strategy for customized products, which are manufactured and shipped according to specific requirements.
Configure-to-order is better suited to a model where products require many variations. Both practices provide the opportunity to reduce inventory. For basic products selling in high volume, make-to-stock can be used to keep manufacturing costs down and serve customer demands quickly, but this also results in higher levels of inventory.
Some companies have also chosen to pursue an asset-light manufacturing strategy, significantly increasing the proportion of production that is outsourced.
- Mix and type of spend.
In general, technology companies purchase materials, supplies and product subassemblies from a large number of vendors. Contract manufacturers, original design manufacturers and electronics manufacturing services providers around the world are also relied upon to optimize costs, reduce capital investment, and manage manufacturing lead times and component supply more effectively.
Some products are purchased from third-party OEMs and resold under a new brand. The assembly and testing required for the majority of manufactured components are performed either internally or through third parties.
- Different levels of exposure to software and services.
Sales levels of software and services vary widely across segments, but also within each segment, with companies opting for different strategies. Note that with software and services, billing practices become even more important, revenue recognition can be complex, extended customer acceptance need to be carefully considered, unbilled balances can be substantial, and managing bundled products can prove difficult.
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