Tariffs, Tension, and Tied-Up Cash: A Supply Chain Reality Check for CFOs
Navigating the Financial Impact of Tariffs on Working Capital and Supply Chain Resiliency
In today's economic landscape, tariffs have emerged as a significant factor affecting free cash flow for businesses. Money is tight, low interest rates are behind us, and capital is more expensive. This shift makes working capital management more critical than ever. Every dollar trapped in inventory or lost to margin erosion is a dollar that cannot be reinvested, returned to shareholders, or used to fund growth.
The Impact of Tariffs on Cash Flow
Tariffs are often viewed as a trade policy issue, but their effects extend far beyond just increasing costs. When inventory becomes more expensive due to tariffs, a company's current assets on the balance sheet may appear larger, but this is a misleading indicator of financial strength. Instead, it represents cash that is tied up and less liquid, which can severely constrain free cash flow. Over-ordering to hedge against future tariffs can exacerbate this problem, leading to even more cash being trapped in inventory.
The Ripple Effect
The impact of tariffs is not isolated to a single area of the business. It creates a chain reaction that affects multiple aspects:
- Costs Increase: Tariffs raise the cost of goods, making inventory more expensive.
- Margins Squeeze: Higher costs lead to reduced profit margins, putting pressure on the bottom line.
- Working Capital Balloons: More cash is required to maintain inventory levels, leading to a larger working capital requirement.
- Supply Chain Stiffens: Sourcing decisions are often driven by fear rather than data, which can disrupt the cash conversion cycle.
Companies that lack structural agility, such as flexible sourcing and real-time inventory visibility, are particularly vulnerable to these effects. They are more likely to be caught off guard by sudden changes in trade policies and market conditions, leading to significant financial strain.
Strategies for Mitigation
To navigate these challenges, CFOs need to adopt a proactive and strategic approach to inventory and working capital management:
Identify the stock-keeping units (SKUs) most impacted by tariffs and reforecast demand using real-world lead times and order quantities. Be cautious about over-ordering "just in case" inventory and focus on maintaining inventory hygiene. Consider the total cost of ownership, which includes tariffs, freight volatility, and potential write-offs, rather than just the unit price.
Accelerate accounts receivable (AR) to shorten the cash collection cycle. Stretch accounts payable (AP) strategically to extend payment terms without damaging supplier relationships. Develop predictive dashboards to monitor inventory velocity and tariff exposure in real time, enabling more informed and timely decisions.
Key Questions for CFOs
To ensure your business is well-prepared to face the challenges of tariffs and optimize working capital, CFOs should ask their teams the following questions:
- What portion of our forecasted inventory needs are at high risk of tariff exposure, and how quickly can we unlock tied-up cash?
- Are we managing cash proactively, or are we simply reacting to issues as they arise?
In this new economic reality, working capital management is the battlefield, and cash flow is the war. By adopting a proactive and strategic approach, businesses can remain resilient and capitalize on opportunities in a dynamic global market.
The KPMG Advantage
At KPMG LLP (KPMG), we understand the multifaceted challenges posed by tariffs and address them with a comprehensive team of experts. Our tax teams model tariff mitigation and deferral strategies to minimize financial impact, while our supply chain experts redesign global sourcing to enhance flexibility and reduce dependence on high-tariff regions. We help optimize pricing strategies to defend margins in tough markets, and our risk and ESG teams evaluate geopolitical exposure and supplier concentration to identify and mitigate potential risks. Additionally, our analytics teams can help integrate SKU-level tariffs, margin leakage, and working capital drag into a holistic financial view.
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