Professional Documents
Culture Documents
Working Capital is the money used to make goods and attract sales.
The less Working Capital used to attract sales, the higher is likely to be
the return on investment. Working Capital management is about the
commercial and financial aspects of Inventory, credit, purchasing,
marketing, and royalty and investment policy. The higher the profit
margin, the lower is likely to be the level of Working Capital tied up in
creating and selling titles. The faster that we create and sell the books
the higher is likely to be the return on investment. Thus when we have
been using the word investment in the chapter on pricing, we have
been discussing Working Capital.
Young
Inventory 15,000
Receivables 17,000
Prepayments 6,000
Payables (9,000)
Customer Prepayments (1,000)
Working Capital 28,000
Using this format we can state than any reduction in the Working
Capital figure, other than for provisions for write-offs and write-downs,
will generate the same amount of cash. Thus if a customer pays US$
500 that he owes to the organisation, the Working Capital figure will
fall be US$ 500, and the cash figure will be increased by the same
figure. This revised format is useful when designing spreadsheet
financial planning models for business plans or for internal reporting.
“Book Packagers”
Packagers buy at low prices from printers because they create only a
small number of titles but each title will have a large print run.
Packagers often stay loyal to printers who reward them with long credit
and, in many cases, lower printing prices than those paid by their
publisher customers.
Thus packagers are specialists who are not involved in marketing and
distribution. Subsequently a small number of them have decided to
become publishers and done so very successfully after re-financing.
Most stay as packagers. Compared with publishers, these packagers
have little market value in acquisition terms.
The table below lists items, which influence Working Capital levels
favourably and adversely
Osiris has a Working Capital to Sales figure of 28%. However the figure
will be the average of the organisations different activities. Let us
assume that there are three divisions that produce different types of
books for different markets and use different methods of distribution.
The table below shows how each division generates much Net
Contribution and also how much Working Capital is used in each
division. The cost of sales, royalty, distribution, promotion costs and
write-off figures differ in each case as a percentage of sales although
not all the costs are necessarily variable. The term Net Contribution is
the amount of money that each division generates towards the central
administration cost of the company and hence to profit. Items below
Net Contribution is not relevant to our analysis unless administration
cost vary according to each market. Interest on bank loans could
however be usefully charged against each division to give an even
more meaningful figure. Although a Balance Sheet item, Working
Capital is shown under Net Contribution to highlight the relevance of
comparing Net Contribution and Working Capital levels by division.
The analysis of the above sheds useful light on profitability and use of
Working Capital by division. This is discussed in detail below.
The table below shows each cost item included in the Net Contribution
calculation expressed as a percentage of turnover.
Turnover
The turnover figure is the sum of the sales invoices issued during the
year by division. Any returns or invoice queries would be shown
separately under write-offs in order to highlight to management the
extent of returns and invoices queries. The company will invoice either
by charging an agreed discount off the recommended retail price, or
by using an agreed unit price. If transport is included in the invoice
price, the charge for transport will be shown as an expense under
distribution. Free samples or extra jackets may also be included in the
invoice price.
Cost of sales
Royalty figures
The royalty figures differ because in the case of division A and B, the
royalty is charged on the basis of the retail price, while in the case of
division C, the royalty payable is based on net receipts, i.e. the unit
price charged net of discounts. As markets expand, the need to
negotiate royalty terms based on net receipts will grow in order that
publishers exploit new markets. Without such author contractual
terms, publishers might have to reject otherwise profitable deals. Thus
the author might lose also. It is common for net receipts royalty rates
to be agreed for deals above a certain discount rate, e.g. bookclub,
export deals, coeditions, and licences.
Gross margin
Promotion costs
This includes the costs of promotion and selling whether carried out by
the publishers or by other companies who carry out the publisher’s
instructions.
Write-offs
Write-offs are provisions against things that are likely to go wrong. The
rule is that bad news has to be charged to the Income Statement as
soon as known whereas good news e.g. a large sales order for future
delivery is not shown as a profit until “realised”
The following would be included
Net Contribution
While generating only 10% of total turnover, but 18% of total Net
Contribution, Division C uses only 3.6% of the total Working Capital
tied up in the company. Division C makes US$ 2.70 Net Contribution
for every 1 US$ of Working Capital used in Division C.
Growth opportunities
For every additional US$ 1,000 of turnover, US$ 320 of Working Capital
is required in Division A, US$ 260 in division B, and only US$ 100. It is
rare that the division with the lowest Working Capital requirement will
also have the highest net contribution % but that is what division C
offers. Division C might perhaps consist of reprints or foreign language
editions only.
In the first case we will calculate the future cashflows over a three-year
period using the average net contribution percentage and average
Working Capital % for Osiris. It shows the impact on cashflows starting
with sales of US$ 1,000 in the first year.
Assumption
Turnover growth % 10% 10%
Net Contribution % 15% 15% 15%
Working Capital % to turnover 28% 28% 28%
Assumption
Turnover growth % 10% 10%
Net Contribution % 27% 27% 27%
Working Capital % to turnover 10% 10% 10%
In practice we would add back to the net contribution figures that part
of write-offs that was included for future problems. This is because
such provisions do not affect cashflow.
This “rule” states that invariably time, sales, costs, or problem areas
occupy a disproportionately high percentage of time or money. In
publishing we might use the rule as follows:
Inventory
• Un-printed paper
• Flat printed sheets
• New books and reprints under development
• Finished Inventory
• Publishing plant (discussed in chapters 4 and )
Unprinted paper
Many publishers of short run editions will print extra 4-colour covers for
later printings. A further use is where 4-colour illustration sheets are
printed for later over-printing in other languages.
This represents all the costs of creating new titles and reprints up to
the stage where the books ready for sale. Editorial and design salaries
will be included. As competition among publishers increases,
publishers are forced to create more added value to manuscripts and
this increases the amount of new title costs and also WIP levels.
Faster schedules will reduce WIP levels. This can be achieved by better
scheduling, use of in-house DTP and scanning equipment, offering
incentives to authors (for supplying manuscript on disk) or to staff and
supplier for shorter lead-times. One publishing survey indicated that
those publishers who worked to short schedules also had the lowest
levels of typesetting corrections. Seeing the finished book on which
they have worked motivates certainly many publishing staff.
Finished Inventory
Accounts Receivable
In many countries over 10,000 new titles are published each year.
Bookshops will sell several thousand titles. The rate of sale of books is
slow.
Another key reason is that most customers in the book trade are
under-financed. Rather than raise additional share capital or bank
loans, they use trade credit with their suppliers, the publishers. This is
partly because many customers may be privately owned but also
because the low return on capital from bookselling does not attract
investment easily.
Under sale-or-return basis the bookseller may send back stock not sold
after an agreed number of months. The bookseller must settle the
invoice on the agreed date and will subtract returns from subsequent
invoices. In the case of “sale-or-exchange” the bookseller may return
unsold titles in exchange for purchasing the same number of similar
new titles. This is used widely for paperbacks and is particularly
prevalent in North America for hardback editions also. The Accounts
Receivable figure must take account of the fact that the amount
invoiced may exceed the amount that will later be paid. This makes
cashflow forecasting difficult. Most publishers prefer to agree larger
discounts but sell firm.
Booksellers who pay late are in fact taking a larger discount. If the
publisher earns a 25% Return on Capital, or approximately 2% a
month, the bookseller is thus taking an additional 2% discount for
every month that payment is delayed.
The value of such discounts can be assessed either by using the IRR or
NPV function on a spreadsheet or by the following formula:
Method Comment
High Margin products If Retailers make a large profit from selling a
supplier’s goods, they may lose that profit if
they do not pay on time
Market leadership As for high margin products
Credit checking before This checks the credentials of the customer.
the contract is Many Associations of Publishers operate a
accepted credit committee for their members. Banks
offer a credit reference service also
Frequent and prompt If customers know that they can obtain books
delivery quickly and reliably, they can hold lower levels
of inventory. Many publishers focus on selling
books into rather than out of the bookshops
Formal methods of Bank drafts, Bills of Exchange, Letters of
payment Credit, guarantees. Bonds
Methods of payment
Banks, suppliers and their customers are forced to find more complex
payment methods in order to gain competitive advantage. These are
needed to expand trade and to give confidence to encourage suppliers
to enter into contracts. In order to stimulate credit trade, banks
created more formal payment methods. These are only as good as the
financial standing and reputation of each bank, supplier and customer.
Method of Explanation
Payment
Bills of Checks drawn on the customer by the supplier for
Exchange payment at a future date. The supplier will hand over
delivery and customs documents once the Bill of
Exchange has been signed by the customer (for new
customers) or perhaps immediately with trusted
customers. The Bill may be deposited with the
supplier’s bank and allow a lower rate of overdraft
interest. Alternatively Bills may be endorsed in order
to pay a supplier.
Author royalties
In many types of publishing, the publisher will find an author who will
be contracted to write to a specification; Artists, photographers and
photo agencies will be contracted to provide illustrations and
photographs. The publisher than provides more added value by the
author. In such cases the level of advances and royalty rates will be
lower. In other fields, e.g. academic publishing, authors may write for
no or minimal advance as the incentive is to increase their academic
reputation.
Prepayments to supplier
Payables
Summary
EXAMPLE
In developed countries retailers of high priced items and items with slow stock turn,
may refuse to purchase inventory and will accept only merchandising deals where
the inventory belongs to the supplier until the products are purchased by a
consumer. The retailer is this acting as a commission sales agent only. The supplier is
paid once the goods have been sold.
Investors, banks and suppliers support such companies provided that they are
successful and expanding. In many countries professional retailers are taking an
increasing market share of bookselling proving that bookselling is attractive to
entrepreneurs. Booksellers compete against other successful booksellers, against
supermarkets, bookclubs. Printers, publishers, wholesalers and retailers operate in a
value chain.
From the table above we can infer the following checklist of reducing
Working Capital level in developed countries
Whether the same list will apply to young economies will depend on
average wages levels and other economic data such as the percentage
of urban population to rural population. In developed countries
profitability for such publishers is linked to their ability to charge a
premium price for need-to-buy books. Computer books are a typical
example: a typical PC will cost in excess of US$1,000. Thus the selling
price of a book that assists the user to make better use of the
computer and its software is linked to the benefit. In many young
economies that may not yet be the case.
Possible Solutions
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