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Shrinking digital sales and supply chain disruptions trigger working capital woes for retail giants

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Looming supply side shocks coupled with lower digital sales have attenuating the working capital benefits that big-box retailers reaped in the starting of the year as now they are taking longer to convert cash

by Anmol Karwal

Published: December 14th 2021

After reaping the working capital benefits of accelerating digital sales at the onset of the pandemic, US big-box retailers were digitising inventory management to further bolster their capital. But now with reduced social restrictions favouring a rebound in physical sales, coupled with lingering supply chain bottlenecks, these benefits have started to diminish as retailers are taking longer to convert cash in the third quarter of 2021.

Losing momentum

Traditional retailers including Walmart, Target, BestBuy, Home Depot and UK supermarket chain Tesco have been wary of the e-commerce powerhouse Amazon, whose business model is built on getting paid by customers before paying suppliers, helping the company to maintain a negative Cash Conversion Cycle (CCC).

With coronavirus led lockdowns in place, as consumers shifted to e-commerce, these companies were able to get a working capital boost in the initial part of the pandemic. However, as social restrictions subside, the share of revenue from digital sales is reducing.

The consumer electronics retailer, Best Buy which recorded 39.5% of sales from its app or website in 2020 saw it nosedive to 28.9% in the third quarter.

While the offline marketplace leader, Walmart whose share of digital sales doubled in 2020 saw it reducing by 210bps to 12.2% in Q3.“Walmart US comp sales grew 9.2%, including nearly 6% growth in transactions, with in-store shopping leading the way.” said Brett Biggs, CFO at Walmart.

Home Depot and Target both saw digital sales marginally slip to 13.3% and 17.6% respectively.

Hoarding inventories

Facing incessant supply shortages and bottlenecks since the starting of the year, retailers were seen holding inventory to cover only a month of sales insufficient to supply the magnified consumer demand. To mitigate these challenges while going into the final quarter of 2021, these companies pulled forward stock and placed orders for larger quantities resulting in inventories to jump by 17% or $23.9 billion to $162 billion at the end of the third quarter, the highest in seven years.

With lower digital sales and more inventory in hand, cash is trapped in stock and waiting to be sold which has led to a longer cash conversion cycle in the third quarter of 2021

Walmart recorded a 20% rise in inventories, taking it to $57 billion at the end of Q3. The company said that it repurchased $2.2 billion of stock in Q3 and $7.4 billion year-to-date, up significantly from last year.

“We worked deliberately this year to pull forward inventory so we land at Halloween and Christmas earlier” said Kathryn McLay, President and CEO at Walmart.

This resulted in Days Inventory Outstanding (DIO), a measure of the average number of days that a company holds inventory before turning it to sales, increasing by 5 days to 45 days in Q3. This further increased the Cash Conversion Cycle (CCC) to 8 days from only 3 days in the last quarter.

While Amazon recorded a 28% or $6.8 billion rise in inventories as it held $31 billion of merchandise at the end of Q3, highest in the last seven years. This expanded DIO by 6 days to 39.4 days, delaying cash conversion by 10 days during the same time period. Despite the increase in CCC, Amazon was able to collect cash 27 days before paying to suppliers as compared to 44 days in the Q1.

Following Walmart, Best Buy held $8.5 billion of inventory at the end of Q3, $2 billion or 33% higher than the last quarter resulting in DIO to rise by13.5 days to 74 days, highest in the last seven years.

With higher inventories on balance sheet, Best Buy took 14 additional days to convert cash during the same time period as CCC stood at 20 days after dipping to -2 days in the starting of the year.

“We entered Q4 with 15% more inventory year over year and feel confident in our ability to serve our customers throughout the holiday” said Corie Barry, CEO at Best Buy

The home improvement retailer, Home Depot also followed suit as it increased its stock by 8%, or $1.6 billion to $20.5 billion in the third quarter while its DIO jumped by a staggering 11 days to 73 days resulting in its CCC to expand to 36 days from 25 days in the previous quarter.

The company reported that a part of the inventory growth was due to stocking its three or four new purpose-built facilities as a part of its expansion programme.

While Minneapolis based Target also increased inventories by 33% or $3.7 billion to $15 billion at the end of Q3 while DIO jumped by 14% to 65 days during the same time period. The company had expedited ordering with larger upfront quantities mitigating the risk that replenishment could take longer than usual.

Target doesn’t disclose its detailed working capital metrics to calculate CCC.

Netherlands based hypermarket, Ahold Delhaize has also been steadily increasing inventory as it held $3.7 billion of goods in Q3, 5% or $200 million higher than the previous quarter. Despite the increase, growth in DIO and CCC was stagnant as the metrics stood at 45 days and 24 days respectively.

The company said that its collaboration programme with more than 200 suppliers is helping to ensure sufficient inventory.

Meanwhile, inventories at Kroger reduced by 6% or $500 million to $7.5 billion in Q3, at its lowest level since the start of the pandemic. The company didn’t respond to a request for comment.

The American grocery retailer, Albertsons held inventory worth $4.17 billion, lowest since 2018 helping the company to convert cash two days faster than the previous quarter as CCC stood at 50 days.